One of the reports you can use to keep your finger on the pulse of your business's financials is a cash flow statement. Cash flow statements help you break down the net amount of the cash and cash equivalents moving through your business and show you the amount of cash you have on hand for a given period. These statements are useful because they give you an accurate read on your company's fiscal health and help you manage cash flow, which is critical to the success of your business.
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What is a cash flow statement?
Before we delve into how to create a cash flow statement, it's important to have a clear understanding of what it is. A cash flow statement summarizes the amounts of cash and cash equivalents that go in and out of your company. Cash equivalents are bank deposits, short-term investments and cash-convertible assets, which include overdrafts.
A cash flow statement also shows your business's cash balance, which is how much money you have on hand and in demand deposits. This information helps you understand how well (or how poorly) money is being managed in your business. Essentially, it shows whether the money coming into your business is sufficient to pay the bills.
An income statement and balance sheet are integral to understanding your cash flow statement, and they are necessary to produce it. [Read related article: Everything You Need to Know About Cash Flow Statements]
How is a cash flow statement used?
In short, a cash flow statement is used to document the financial activity of your business. It provides a snapshot of the cash surplus or deficits your company may be facing, which allows you to plan appropriately.
By knowing your cash flow forecast, you can also use this document to make better spending and sale decisions. Using this form, you can learn whether your company experienced a positive or negative cash flow, which lets you know if you should cut costs – such as by raising prices, eliminating unnecessary inventory or changing marketing strategies. [Read related article: How to Improve Your Small Business's Cash Flow]
It is also a beneficial document for investors, to help them determine how investible your company is or whether you can pay back a long-term debt.
Why do you need a cash flow statement template?
The best accounting software applications have the ability to run cash flow reports, but if you're not yet using accounting software or if it lacks this reporting ability, a cash flow template can be a useful tool.
Cash flow statement templates help you organize your financial data to identify potentially low or negative cash balances, enabling you to make forward-looking cash projections.
"The more time you have to make adjustments, the more adjustment options you have," said Rob Stephens, CPA and founder of CFO Perspective. "For example, you may identify the need to get a loan or a capital infusion while you still have the time and are strong enough to get them."
To get started on your own statement, download one of these free cash flow statement templates:
- Corporate Finance Institute's free cash flow template
- ExcelFunction.net's free cash flow statement template
- Smartsheet's free cash flow statement template
- Vertex42's free cash flow statement template
What is an example of cash flow?
Cash flow presents itself in many forms within the world of business. If, for example, there is a cash surplus, management may decide to use a portion of it to pay dividends, award bonuses, or repay debt if there isn't a better use for the funds, explained Adnan Akhand, a partner at BX3. On the other hand, a cash deficit could mean the business is operating inefficiently or may need an external cash infusion.
Here's an example to demonstrate cash flow further, courtesy of Ken Stalcup, CPA and senior advisor of national business evaluation firm Houlihan Valuation Advisors:
"Let's say you have $20 in net income. At the start of the year, you had $10 in accounts receivable (an asset). Then, at the end of the year, you had $5 in accounts receivable. At the start of the year, you had $6 in accounts payable (a liability). At the end of the year, you had $8 in accounts payable. In this example, your cash flow from operations would be $27."
What is the format of a cash flow statement?
The cash flow statement has three sections: operating activities, investing activities and financing activities.
Operating activities
Operating cash flow includes incoming sales revenue as well as outgoing taxes and payments, such as those made to suppliers and staff. Akhand explained that this section is calculated based on the main revenue-generating operations of the business.
"This includes non-cash items, such as adding back depreciation, and changes in working capital, including prepaid expenses, accounts receivable and accounts payable," said Akhand.
Investing activities
Investing cash flow includes the purchase or sale of long-term assets, like buildings, property, equipment and other noncurrent assets. This section includes the acquisition or disposal of noncurrent assets or investments that aren't included as cash equivalents, as well as the purchase or sale of marketable securities.
Financing activities
Cash flow from financing activities includes loans payments and the issuing or buyback of stocks. These activities cause changes within the size of your equity capital or borrowings.
When you combine the accounting of these three activities, it creates a cash flow statement to help you with your money management.
Transaction examples
Here's an example of how you would use these different sections to categorize your financial transactions. Let's say you take out a loan from a bank so you can invest in a new piece of machinery that will help bring your costs down.
- When you receive money from the bank, you are increasing your debt, which would be categorized as a financing activity, since there's no profit and loss impact, according to Abir Syed, CPA at UpCounting.
- When you use the loan to buy the machinery, the outflow of cash without a profit and loss effect would be categorized as an investing activity.
- The financial impact of using the machinery – for example, you may be using more or less electricity and raw materials or fewer employee hours, all of which require cash for you to make the products to sell – would be categorized as operating cash flow.
How is a cash flow statement prepared?
When you prepare your cash flow statement, understanding your income statement and balance sheet is key. In a nutshell, these financial statements show how well your business performed for the month.
- An income statement, also known as a profit and loss statement, shows your company's revenue and expenses.
- A balance sheet shows your current assets, liabilities and business capital, providing a snapshot of your financial standing at a certain period.
"The cash flow statement takes the data in these two reports and helps you determine what happened with your cash," said Jamie Nau, director of accounting at Summit CPA Group.
There are two ways to prepare a cash flow statement. Both processes use the same investing and financing data, but the direct method uses gross cash receipts and gross cash payments, while the indirect method uses new incomes and adjusts the profits and losses based on line items from the balance sheet. [Read related article: How Is a Cash Flow Statement Prepared?]