What is a cash flow statement?

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Cash flow is the amount of money coming in and going out of a company or organization during a specific accounting period.

As a tool, cash flow is used to determine the solvency of a company such as how it will pay its vendors, employees and operating expenses.

What is a cash flow statement?

A cash flow statement is one of the four kinds of financial statements. The other three main financial statements are balance sheets, income statements and statements of shareholders’ equity.

Investors are able to gauge the overall health of a company by breaking down the three main components of the statement of cash flow. One factor to note is that high levels of cash flow do not always equate a large percentage of profit.

A cash flow statement provides relevant information to determine the quality of the income and is divided into three main categories:

1. Operating cash flow

The operating cash flow is typically included in the first part of the statement. This cash flow is related to a company’s day-to-day operation, which indicates whether a company is able to generate the necessary cash to maintain operations or potentially expand in the future.

2. Investing cash flow

The investing cash flow includes investments in equipment, property and other assets plus the sale and purchase of them along with gains or losses from said investments in the financial market.

3. Financing cash flow

The financing cash flow is in the third part of the cash flow statement and includes the results from any financing activity. This can include paying back a loan, obtaining a loan, issuing cash dividends or stock or selling stocks and bonds.

How to calculate free flow cash

Examining the cash flow of a company is important because it is an indication of whether a company is likely to remain solvent or not.

In order for a company to be profitable, the executives must know how to maintain and improve cash flow on a consistent basis so that it can pay for rent, taxes, employee salaries as well as purchased equipment and supplies.

To compute cash flow, start with the amount of money being transferred into the business. This is also called incoming cash and takes the form of the following:

  • Sale of goods and services
  • Sales of assets
  • Loan proceeds
  • Investments

The next step is to examine the amount of money that is being transferred out known as the outgoing side. It takes the form of the following:

  • Operating expenses
  • Direct expenses
  • Assets purchased
  • Debt service

At the end of an accounting period or quarter, a cash flow is deemed positive if the closing balance is higher than the starting balance and the company’s liquid assets are increasing. The cash flow is negative if the closing balance is lower and the company’s liquid assets are decreasing.

Companies produce a cash flow statement that shows the exchange of money at the end of an accounting period. It is used as a guide for the next accounting period.

Increasing cash flow

Once a company improves it’s cash flow, it has more liquid assets. These assets give the company the option to pay down their loans or re-invest in the company.

There are several methods a company can use to increase cash flow:

  • Improve the sale of good and services or increase selling prices
  • Sell assets
  • Reduce operational costs
  • Collect deferred payments faster or refuse credit
  • Delay payment of short-term liabilities
  • Draw down on a loan

The cash flow statement is useful for assessing an increase or decrease in a company’s liquid assets and helps managers and investors determine whether the company is solvent, can expand or is financially unstable.

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Written by
Ellen Chang
Contributing writer
Edited by
Megan Harney
Audience development editor