How a Cash Flow Statement Can Improve Your Company’s Performance

What Is a Cash Flow Statement?

A cash flow statement is a report that shows where a company’s money comes from — like selling products or getting loans — and where it goes — like servicing a loan or payroll. It offers insight into a company’s liquidity and financial health over a specific period of time.

Key takeaways from a cash flow statement include identifying operating, investing, and financing activities that impact a company's cash position. This helps in assessing a company's ability to make strategic financial decisions. By analyzing cash flow statements, stakeholders can gauge a company's financial stability and its capacity to generate positive cash flow.

How a Cash Flow Statement Is Used

Cash flow statements play an important role in your business’ financial planning. This simple document can help leaders make informed decisions about budgeting and resource allocation. Companies can pinpoint areas where they may need to reduce expenses or optimize revenue generation by tracking cash flows.

These statements also aid in assessing the feasibility of growth initiatives. Companies can determine if they have the necessary cash reserves to fund expansions or acquisitions without jeopardizing their day-to-day operations. This information is crucial for achieving sustainable growth while maintaining financial stability.

The Structure of a Cash Flow Statement

There are three main sections in a cash flow statement. Each of them offers a distinct perspective on a company’s financial activities. The main sections include cash from operating activities, cash from investing activities, and cash from financing activities. 

Cash from Operating Activities

This section represents cash generated or used by the core operations of the business. It includes money received from customers, cash paid to suppliers, salaries, interest, and taxes paid. It provides insights into the company's ability to generate cash from its primary operations and sustain its core business. A positive operating cash flow is generally a sign of a healthy, self-sustaining business.

Cash from Investing Activities

This section records cash flows related to investments in assets and securities. It includes cash spent on purchasing or selling property or other long-term assets. It also encompasses proceeds from the sale of investments. The cash from investing activities highlights how a company is allocating its capital for long-term growth. Negative cash flows in this section may signify investment in expansion, while positive cash flows may indicate asset sales or divestitures.

Cash from Financing Activities

This section covers cash transactions related to debt and equity financing. It includes funds received from issuing stocks or borrowing loans and cash paid for stock buybacks or debt repayments, as well as dividends. It offers insights into how a company raises and repays capital. Positive cash flows from financing activities may indicate external funding, while negative cash flows could signify debt reduction or returning value to shareholders.

Calculating Cash Flow

There are two methods for calculating cash flow: direct and indirect. The direct method quantifies cash flow by directly tracking and summing all cash inflows and outflows from operating activities. This method provides a detailed breakdown of cash receipts and payments, making it more transparent. However, it can be more time-consuming and complex to implement, as it requires thorough tracking of individual transactions.

The indirect method, on the other hand, starts with net income from the income statement. It then adjusts it for non-cash expenses (like depreciation) and changes in working capital items (like accounts receivable and accounts payable). While the indirect method is less detailed, it is easier to use since it relies on data readily available in financial statements. However, it may not provide a clear picture of the actual cash transactions.

Direct and Indirect Cash Flow Statements: Which Is Better?

The choice between direct and indirect methods ultimately depends on your business's specific circumstances and reporting requirements. The indirect method is generally more common because it is easier to apply and is accepted under Generally Accepted Accounting Principles (GAAP) and International Financial Reporting Standards (IFRS). Small businesses or those with straightforward cash flows, however, might find the direct method more insightful and accurate.  The most important criteria is that your choice should align with your business's financial reporting needs and available resources.

Limitations of the Cash Flow Statement

Cash flow statements may not fully capture operating activities, as they exclude certain non-cash transactions and accruals. Additionally, they may not always represent the true economic reality of transactions, especially when accounting policies differ. Timing discrepancies between recognizing revenue and cash collection can result in discrepancies between reported profit and cash flow.

To gain a more comprehensive view of financial performance, you can complement cash flow statements with additional metrics. Regularly reconciling cash flow statements with income statements and balance sheets helps detect and rectify any discrepancies. You can also enhance transparency by including explanatory footnotes and disclosures in financial statements to clarify significant non-cash transactions and accounting policies. These strategies help stakeholders better understand the nuances of the company’s financial health that are not captured by cash flow statements alone.

Relationship to Other Financial Statements

Cash flow statements, income statements, and balance sheets are three fundamental financial documents. They work together to provide a comprehensive picture of the company’s financial position. Although there is some overlap, income statements and balance sheets serve distinct purposes that complement cash flow statements.

• Income Statement: The income statement provides a summary of a company's expenses and profits over a specific period. It measures the profitability by showing the company’s net income or loss. The income statement is valuable for understanding the company's operational efficiency and its ability to generate profits from its primary activities.
• Balance Sheet: The balance sheet provides a snapshot of a company's financial position at a specific point in time. It is crucial for assessing a company's solvency, as it shows how assets are financed through a combination of debt and equity. It highlights the company's overall financial structure and the relationship between its assets and liabilities.

Each statement complements the others in unique ways. For example, cash flow statements reveal short-term liquidity while balance sheets provide insight into long-term liquidity. They can also be used in profitability analysis since income statements assess profitability and cash flow statements verify the transition from profit into cash flow.

When examined together, these three statements allow you to gauge your company’s overall financial health. They are especially beneficial tools for highlighting potential discrepancies between reported profits and cash flow challenges. They offer crucial insights into long-term financial stability that can help guide your decisions.

How to Fill Out a Cash Flow Statement 

Compiling a cash flow statement doesn’t need to be a confusing process. Once you understand what elements to look at, you can quickly craft a comprehensive statement for strategic decisions.

1. Beginning Cash Balance: To start, identify the company's cash and cash equivalents at the beginning of the reporting period, typically found in the previous period's cash flow statement or balance sheet.
2. Cash Flows from Operating Activities: Begin with net income from the income statement. Adjust for non-cash expenses like depreciation and amortization by adding them back. Account for changes in working capital, subtracting increases in assets like accounts receivable and adding increases in liabilities like accounts payable. Don't forget to include any interest and taxes paid during the period. Sum up these adjustments for the net cash flow from operating activities.
3. Cash Flows from Investing Activities: Record cash inflows from asset sales or investments. Deduct cash outflows for asset or investment purchases. Calculate the net cash flow from investing activities by subtracting cash outflows from inflows.
4. Cash Flows from Financing Activities: Note cash inflows from activities like stock issuance, bond sales, or loans. Deduct cash outflows for stock buybacks, dividend payments, or loan repayments. Calculate the net cash flow from financing activities by subtracting cash outflows from inflows.
5. Calculate Net Change in Cash: Add the net cash flows from operating, investing, and financing activities to determine the overall cash change for the reporting period.
6. Add Beginning Cash Balance: Combine the net change in cash with the beginning cash balance to determine the ending cash balance for the reporting period.
7. Reconciliation: To ensure accuracy, compare the ending cash balance from the cash flow statement with the cash and cash equivalents reported on the balance sheet. These two figures should match.
8. Reporting: Present the cash flow statement with clear sections for operating, investing, and financing activities. Be sure to provide any necessary supplemental information or explanations.

You can harness cash flow statements for future projects by evaluating the availability of funds and identifying potential sources for financing. This proactive analysis empowers you to align your organization’s financial strategies with the demands of upcoming opportunities.

Cash and Cash Equivalents

You may choose to include both cash and cash equivalents when calculating your statement. These are highly liquid assets held by a company that can be quickly converted into cash within a short period, typically within three months or less. Cash and cash equivalents include physical currency, bank deposits, money market funds, and highly liquid investments. 

Both are crucial to a company's financial stability as they serve as a financial cushion for meeting immediate obligations. They have a direct impact on cash flow because any increase or decrease in cash and cash equivalents significantly influences a company's ability to navigate financial challenges. Maintaining a healthy balance of cash and cash equivalents is essential for ensuring a company's ongoing operations and strategic maneuverability.

Improve Cash Flow with Employee Wellbeing

Implementing wellbeing programs can act as a catalyst for improving both sides of your cash flow statement. 

By fostering employee health and wellness, productivity surges. It can also help reduce absenteeism and enhance overall workforce efficiency. This, in turn, generates savings through increased output and decreased healthcare costs. In a study involving over 19,000 employees, Wellhub clients witnessed a remarkable 35% reduction in healthcare expenses. 

Talk to a Wellbeing Specialist today about how you can start saving and create a healthier, more financially resilient organization.