This article talks about how important it is for business owners to understand their statement of cash flows. It says a lot about your business, and allows others to see important financial information. Below, you will also find an in depth explanation of the different pieces in a statement of cash flows.
What is a statement of cash flows?
Most small business owners work closely with the financial side of their business. Others may not be as financially savvy and avoid numbers at all costs. Either way, it’s crucial to understand your business’s daily cash flows.
So, what exactly is a statement of cash flows? The statement of cash flows is one of the main financial statements. It reports the amount of cash generated and used during a certain time interval specified in its heading. For example, the heading may say, “For Q2 of year 2013.”
To understand your business’s statement of cash flows even more, it is organized and broken up into three separate parts. The first part, is the net cash flow from operating activities. This are the daily internal activities of a business that either require cash or generate it. They include things like: cash collections from customers, cash paid to suppliers and employees, cash paid for operating expenses, interest and taxes, and cash revenue from interest dividends. The second part is the net cash flow from investing activities. These are discretionary investments made by management, primarily of the purchase and sale of equipment. Lastly, the third part is net cash flow from financing activities. Financing activities are the external sources and uses that affect cash flow. Examples of these types of activities are sales of common stock, changes in short-term or long term loans, and dividends paid.
What Can The Statement of Cash Flows Tell Us?
The statement of cash flows is a snapshot of how the business is performing. It’s basically a summary, that shows the “health” of the business, how much cash is going in a out. One way businesses use this statement is by comparing the cash from operating activities to the companies net income. According to Wikipedia, “ If the cash from operating activities is consistently greater than the net income, the company’s net income or earnings are said to be of a “high quality”. If the cash from operating activities is less than net income, a red flag is raised as to why the reported net income is not turning into cash.”
The cash flow statement identifies the cash that is flowing in and out of the company. If a company is consistently generating more cash than it is using, it is said to have “free cash flow.” The higher the firm’s free cash flow is, the healthier the firm. This is because the firm has more cash available for growth, debt payments and dividends.
What You Should Remember
The statement of cash flows is very important especially when you’re looking for how much cash the company has actually generated. Despite common belief, that you should look on the income statement, the income statement often includes non-cash revenues or expenses, which the statement of cash flows omits, giving more applicable, and easy to use information.
By: Lauren Rockwell, a business writer and works on the marketing staff at Liberty Capital Group, Inc. She writes about the latest business trends and industry conditions, from international economics to business funding and financing. Her blogs are intended to offer accurate and concise advice to readers.