What Is a Cash Flow Statement?

A cash flow statement compiles information regarding all cash inflow related to a company's business operations and investments and all business-related cash outflow. Put more simply, a cash flow statement tells you how much money is coming in versus going out from your business within a defined accounting period.

Whether you're a freelance contractor or are managing a small business, it's important to understand cash flow statements. Along with your income statement and balance sheet, the cash flow statement is one of the three most important documents you'll use to monitor your business's financial health. Skynova provides practical accounting software that makes it easy to manage your small business accounting and stay on top of this valuable financial paperwork.

Below, we provide more detail on why this financial documentation is so important for small business bookkeeping and show you what to include in your cash flow statement.

What's the Purpose of a Cash Flow Statement?

The purpose of the cash flow statement is to tell you how much actual cash your business possesses within a set time frame.

A cash flow statement is different from an income statement, though. An income statement indicates how much money has come in and gone out, but it doesn't define the amount of cash — actual liquidity you could spend on the spot if needed — that you have on hand.

This differentiation is especially important to make if you use the cash accounting method. With the cash accounting method, you record money as "earned" or "spent" once you have it in hand or it's left your bank account. This is different from the accrual accounting method, which records when income or expenses are earned or incurred.

For example, let's say you complete a job for a client and invoice that client $400. With accrual basis accounting, you count that $400 as soon as you've invoiced the client. However, with the cash accounting method, you only count that $400 when it hits your business bank account.

What's Included in Cash Flow?

A cash flow statement includes cash income from three sources: business operations, external investment, and financing. The sum of these three sources is your business's net cash flow. It's best practice in small business accounting to organize the company's cash flow statement starting with operating cash flow, followed by cash from investing activities and then cash from financing activities.

Keep reading to see what you need to include in each section.

Operating Cash Flow

The first section of the cash flow statement covers cash flow from operating activities. Operating cash flow includes all business activity transactions. Activities that fall under this umbrella include buying inventory, selling goods and services, and paying employees. You should only include activities related directly to your primary business activities and operations. That excludes items like debts, dividends, and investments.

Cash Flow From Investing Activities

The second section of the cash flow statement covers cash flow from investing. This includes any investment gains and losses. Activities that fall under this umbrella include cash spent on equipment, technology, and property — which means negative cash flow. Alternatively, you can generate positive cash flow by selling property or equipment.

Usually, an increase in these so-called capital expenditures means your overall cash flow will be lower. However, that isn't necessarily bad, as these investments can be a step toward expanding and improving your business operations. In fact, investors actually see a high level of capital expenditures as a positive sign of growth.

Cash Flow From Financing Activities

The final section of the cash flow statement is cash flow from financing. This covers cash flow between your business, you as the business owner, and any creditors. Usually, financing cash flow sources are debt or equity. Examples include financial investments from private lenders or dividends paid out in cash to shareholders.

What Are the Uses of a Cash Flow Statement?

Now you know what goes into a cash flow statement but may be wondering how to use it. This document serves multiple purposes. Read on for a more in-depth overview.

Liquidity

A cash flow statement tells you how much cash your business possesses within a set time frame. This allows you to ensure sufficient liquidity to maintain daily operations and take care of tasks like paying employees or suppliers. Without enough cash on hand, you risk having to put your business on pause.

Changes in Assets

Additionally, you can use your cash flow statement to quickly see changes in current assets. Assets are any item of value that your company owns. This could include land, buildings, equipment, and intellectual property. Concrete examples include cash, inventory, tools and technology needed to run your business, and accounts receivable.

Changes in Liabilities

You can also use your cash flow statement to track changes in current liabilities. Liabilities refer to any debts your company has (simply put, anything that detracts from your business's value). Examples include mortgages, unpaid bills, bank loans, and IOUs (for example, if you've promised a customer a refund). Salaries and wages payable are also liabilities.

Changes in Equity

Equity tells you what's left after you subtract your liabilities from your assets. This is your business's net worth. If your business is a partnership or sole proprietorship, equity is usually referred to as "owners' equity" on the balance sheet. For corporations, you'll see this referred to as "shareholders' equity."

Cash Flow Predictions

You can also use your cash flow statement to predict future cash flow, allowing you to plan for upcoming business liquidity. This allows you to make smart long-term business planning decisions. For example, if you're thinking of expanding and need to invest in a larger property, your cash flow predictions will let you know if it's feasible.

What Is an Example of a Statement of Cash Flow?

There are two methods to figuring out your business cash flow — the direct method versus the indirect method. Both approaches are acceptable; however, small businesses are generally advised to use the indirect method. Below, we explain the difference and provide you with an example of a statement of cash flow.

Direct Method

With the direct method, you record cash flow as it comes in and goes out of your business. At the end of the month, you use that information to prepare your cash flow statement. With this approach, you have to create a cash receipt for every transaction.

Indirect Method

With the indirect method, you refer to the transactions on your income statement and use this to pinpoint any transactions that involved the movement of cash in or out of your business. You can tally up all cash transactions to see what your current working capital is. This is simpler than the direct method because it eliminates the need to create and track receipts.

Statement of Cash Flow Example

So, what does a statement of cash flow look like? Here's an example:

Let Skynova Help You With Your Small Business Financial Statements

An accurate cash flow statement helps you monitor your business's financial status and overall success. It can also be used for practical purposes, like financial planning and securing funding from investors.

To create accurate cash flow statements, you need to stay on top of all your cash inflow and outflow. Skynova software can help. Our diverse products — from invoice to purchase order templates — will help you organize and manage your money as a business owner. Find out more.

Notice to the Reader

The content within this article is meant to be used as general guidelines and may not apply to your specific situation. Always consult with a professional accountant for specific advice regarding best practices.