A cash flow statement is a key financial document used to report the cash generated and spent during a specific period. It’s responsible for showing how money is actually moving in and out of your business.
The cash flow statement teams up with a profit and loss statement as well as a balance sheet to provide a full picture of a business’ finances. This statement helps you determine the quality of your earnings while also providing you with an overall sense of performance.
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We at InvoiceBerry previously provided some useful tips for staying on top of cash flow. Now we’d like to take it a step further and walk you through the process of actually preparing your cash flow statement.
Since it’s advisable that businesses prepare statements on a monthly basis during their first few years and then on a quarterly or annual basis later on, the following explanations will come in handy.
Cash flow formula
Because cash is unanimously voted king whenever it comes to business, it’s imperative that you have a clear picture of where you stand at any given time. That way you’ll be able to identify trends and deal with them accordingly.
The basic cash flow formula states:
Cash Flow = Cash Inflow – Cash Outflow
So let’s say you own and operate a small cleaning business, an example of cash inflow would be all the money you receive from your customers for your services.
On the other hand, your electricity bill, the money you spend on your cleaning supplies and the salaries you pay your staff would all be classified as cash outflows. Subtracting the totals from these two will then give you the (hopefully positive) magic number.
As simple as this sounds, there is one important thing to keep in mind when dealing with cash flow statements: revenue is recognized as it is earned, not when cash is received. Also, expenses are recorded as they’re incurred, not when cash is paid out.
So for example, a sale made on January 15th would be recorded for January 15th even if only a part of the balance is paid on that day. Similarly, December’s rent will be recorded for December, even if the bill is actually paid in January.
The following steps use our free template to depict a simplified cash flow statement for our small cleaning business. In the template example, you’ll notice the sections are broken up according to Cash Receipts or the source of where money has come from and Cash Paid Out or the application of where funds have gone.
This is so you get a firm understanding of cash inflow and outflow examples.
The sources of funds might include:
- funds from operations (cash sales)
- proceeds from the sale of fixed assets
- proceeds from the sale of investments
- issuing of shares
- proceeds of loans obtained
The application of funds might include:
- loss from operations (cleaning supply purchases, rent, etc)
- payment of taxes
- purchase of fixed assets
- repayment of loans (loan principal payments)
- reserve and/or escrow
- owner’s withdrawal
In this example of this small business cleaning start-up, we observe the working capital increase as the current assets increase from month to month. The cash inflow appears to be strong despite increases in liabilities.
Cash flow statement classifications
In terms of breakdown, every conventional cash flow statement comprises of three sections:
- Cash flows from operating activities (both cash inflows and cash outflows) refer to the primary revenue-generating activities of a business. For example, all cash received from the sale of goods or services, earnings before interest, taxes and depreciation and cash paid to suppliers would all come under this category.
- Cash flows from investing activities refer to any inflows or outflows of cash from a company’s long-term investments. Fixed assets such as property or plant and equipment are categorized as investing activities and their purchase and sale would be recorded here.
- Cash flows from financing activities refer to the total amount of funding used to finance a business. It includes the issuance and repayment of equity, dividends, debt and capital lease obligations.
Now, take a deep breath. It probably sounds a lot more complicated than it really is. Also, keep in mind the complexity of your particular cash flow will depend on the size and complexity of your own business. Are you a small sole-trader? Then your statement may be only a few lines long.
On the other hand, if your operation is a bit more sizable, your statement may resemble our next example a little more.
The inflows and outflows for each type of activity over the period 2014 – 2016 for the tech company Amazon. You see the opening balance or beginning of period cash equivalent is always recorded first.
Then under each classification of activity, net cash used is calculated for each type of activity. As a final step, any foreign currency effect on cash must be factored in to be subtracted from the net increase or decrease.
Source: Amazon.com
Again, if it sounds too complicated, just retrace steps back to the basics: Cash Flow = Cash Inflows – Cash Outflows.
Remember, the cash flow statement is important because it can help you to better understand the finances of your business. It shows where your earnings are coming from and where your hard-earned cash goes.
A good cash flow statement can help you can identify and improve on cash management trends thereby enabling your business to meet its financial obligations.
