The cash flow statement provides information to assess the company’s liquidity, solvency, and financial flexibility. This information is beyond that available from the income statement and is based on accrual, rather than cash, accounting.

A primary means of identifying the viability of a company, cash flow statement can be used to perform following analysis whether:

  • Sufficient cash is generated by a regular operations in order to sustain the business or to pay off existing debts
  • A company reqires additional liquid financing
  • Liquidity of a company would allow it to pay an unexpected obligations
  • Additional investments activities can be started / continued given the cash available

The cash flow statement is one of the three main financial documents (balance sheet, income statement, cash flow statement) used to evaluate a company’s financial health, its items comes from other two statements: income statements items and changes in balance sheet items. Cash flow statements are used by potential investors, creditors, shareholders of the company and accountants.

A cash flow statement is divided into three main parts:

  1. Cash flow from operating activities (CFO) (or “operating cash flow”) includes cash inflows and outflows resulting from transaction that impacts company’s net income (impact on income statement). Operating activities can include the cash receipts from the sale of goods and services, payments to employees, payments to vendors and payments for the purchase of merchandise.
  2. Cash flow from investing activities (CFI) includes cash inflows and outflows resulting from acquisition or disposal of long-term assets and certain investments (impact on balance sheet). It can also include loans to customers.
  3. Cash flow from financing activities (CFF) includes cash inflows and outflows resulting from transactions, which affect a company’s capital structure (impact on balance sheet). Financing activities includes the payment of dividends to investors, the inflow of cash from investors, repayment of debt.

These three areas can give a clear picture of the financial stability of a company in the short term. An inflow indicates that cash is coming into the company, while an outflow would show that cash is moving out of the company. Given a fuller understanding of the reasons, neither situation necessarily indicates a problem. Over time, however, a pattern of greater outflow would begin to indicate that the company was spending more money than it was taking in – giving investors and creditors reason to be concerned. Noncash investing and financing activities are not reported in the cash flow statement, since these are neither inflows nor outflows of cash.

As with many financial reports, the use of a certified public accountant is recommended to ensure that the generally accepted standards of accounting and reporting (e.g. IFRS) are being used. By hiring an accountant, the company can verify that the reporting methods are valid, and can be confident that the reports are accurate to the best of its ability.

Ensuring a business’ success means keeping a close eye on the finances and cash flow. When a business wants to track the flow of cash, the cash flow statement is an effective evaluation tool.

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