Table of Contents
How would you like to be able to view a snapshot of the cash flow into and out of your
business as of current, which can then be used to track your business’s performance, predict future cash flow, and help with budgeting decisions? Well, a cash flow statement can help you do just that.
A cash flow statement, which is also referred to as the statement of cash flows, reports the monies spent and generated during a specific period of time as spelled out in the heading, which is usually determined by the business.
It differs from the income sheet and balance sheet in that it is typically used as a complementary resource to the two. You see, sometimes the income reported on the income sheet and balance sheet may include monies not yet collected, in which case you’d have to decipher the balance sheet separately in order to get a clearer picture. However, the cash flow statement enables yourself and others to view your company’s true performance because it does not include the cash sales and sales made on credit.
Using the cash flow statement, investors and business owners can contrast the business’s net income to the income from the operational activities for “real” cash, or the steady cash flow from operational activities that is higher than the net income. If your business is consistently generating more monies than what it is using, this extra cash can then be used to reduce debt, buy back some of your stock, increase your business’s dividend, or even purchase another business. This information can also be used to build some financial models, and more.
Preparing a cash flow statement can be done on your own. All you need is your business’s balance sheet for both the current year and the previous year as well as some income statement information for the time periods you would like to compare. For expert tips on preparing your statement of cash flows, read on.
Expert Tips for Preparing a Cash Flow Statement
There are two ways to prepare a statement of cash flows: the direct method and the indirect method. The method you use generally depends on the data you require from your cash flow statement; however, the most commonly used method is the indirect method, which begins with net income and then makes adjustments for amortization and depreciation, increase or decrease on asset sales, provision for losses on accounts receivable, increase or decrease in inventory, decrease or increase in payables, and increase or decrease in receivables.
A statement of cash flows generally reports the monies used and generated in the following categories: financing activities, operating activities, investment activities, and supplemental activities.
- Reporting Cash Flow From Operational Activities
Cash Flow From Operational Activities converts your business’s net earnings from the accrual system of accounting cash to the cash basis by utilizing the differences in the balances of current liability and current asset accounts.
According to experts, to calculate net income for this section, you need to add depreciation, which is line 2. Once you have taken net income and depreciation into consideration, next you will need to examine any gains and losses in your current liability and current assets accounts for the balance sheets in comparison.
While reviewing the balance sheets, let’s say line 3, accounts receivable, has increased from $200,000 to $300,000, which is an increase of $100,000. Because this gain happened on the asset side of the balance sheet, it is recorded as a negative number because if your business was to issue $100,000 more in customer credit, then your business has $100,000 less to work with. On the other hand, let’s say that line 5, prepaid expenses, decreased by $5,000. A decrease in asset account is considered a source of revenue for your business; therefore, it is recorded as a positive figure.
Next, review the liabilities part of the balance sheet. Let’s say accounts payable, line 6, either remained the same or increased, however, accrued expenses decreased by $10,000. Since this is a decrease in a liability account, it is considered a use of funds for your business; therefore, it is recorded as a negative figure.
Lastly, you need to add up the adjustments in line 8, Net Cash Flows From Operating Activities, which is a brief account of the first part of the Statement of Cash Flows. If after adding the adjustments to depreciation and net income, the remaining figure is a positive one, then your business is generating positive earnings from its operating activities.
- Reporting Cash Flow From Investing Activities
Cash Flow From Investment Activities details the purchase and sale of long-term investments and fixed assets, such as property, plant, and equipment.
To record changes for this section, let’s say that line 9 shows that your business purchased $15,000 more in long-term investments in 2015. Because this is a use of assets, it should be displayed as a negative figure. Similarly, let’s say that line 10 shows that your company also spent $200,000 on additional equipment and plant, this should also be recorded as a negative figure.
Lastly, because this was the amount spent in 2015, Net Cash Flows From Investing Activities, line 11, should be recorded as a negative $215,000.
- Reporting Cash Flow From Financing Activities
The Cash Flow From Financing Activities section outlines the issuance and buyback of your business’s own bonds and stocks as well as dividend payments.
Let’s say you have funded your business with long-term loans that have increased by $25,000, which is recorded on line 12. In addition, you also paid $75,000 in dividends to investors. This is considered cash outflow, so it is recorded as a negative figure on line 13. Therefore, line 14, Net Cash Flows From Financing Activities, is a negative $50,000.
- Reporting Supplemental Information
The supplemental information section records the exchange of important items that did not involve cash, such as the trade of company bonds for company stock. It also reports the amount of interest and income taxes paid, and more.
- Putting it all Together
Once you combine all of the sections from the cash flow statement, you can see how your business is performing from a cash flow point of view. If the total net cash flow from each section is a positive figure, then this equals the net increase in cash flows over the past 12 months for your business. To confirm your examination, simply review the cash account on the comparative balance sheets, which should reveal that cash has indeed increased from year to year.
Creating a Cash Flow Statement
There are various ways to create a statement of cash flows for your business. For instance, you could create your own template or spreadsheet to organize the cash into and out of your business each month. Or, you could use a more sound accounting system, such as reputable accounting software, which has the information needed to instantly create a statement of cash flows. You could also hire a professional accountant who is both certified and experienced in statement of cash flows to create a cash flow statement for your business.