Cash Flow Statement
Purpose and Format

The Cash Flow Statement can be used for creditors and investors to analyze the financial health of the business. The business owner uses the Statement of Cash Flows to measure such activities as whether or not there is adequate cash on hand to pay debts, order inventory, purchase assets, or expand operations.

The Statement of Cash Flows classifies the inflow and outflow of cash as Operating Activities, Investing Activities, and Financing Activities.

1). Operating Activities: The Cash Flow Statement provides information about the actual cash generated from the primary operations of the business.
• Collecting cash from customers is an example of an operating inflow of cash. Payments to suppliers, employees, and cash paid for rent are examples of operating outflows of cash.

2). Investing Activities refer to cash inflows and outflows from investments. Investing activities include lending money with interest, buying and selling assets, and buying and selling investments (e.g. stocks and bonds).

• Collecting on a loan, selling assets, or selling investments are examples of investing inflows of cash. Making a loan for cash, purchasing assets, or purchasing investments are examples of investing outflows of cash.

3). Financing Activities are those activities that allow the company to borrow money or obtain other forms of financing for operating the business.

• Examples of financing inflows of cash are borrowing money or issuing stock to raise cash. Examples of financing outflows of cash are repaying loans or paying dividends on stocks issued.

Operating Activities If a company has profitable operations, why is it short on cash? If a company is operating at a net loss, why does it have a surplus of cash? Investing Activities Is the company using cash to acquire new equipment? Is the company investing cash to expand operations? Is the company obtaining cash from selling assets? Is the company loaning cash? Where is the company investing its cash? How much and where? Financing Activities Is the company financing asset purchases? How much of the asset is financed? Did the company use cash to pay off any of its outstanding loans used to finance the business?

Answers to these questions do not appear on the Income Statement and are not easily determined by analyzing the Balance Sheet.

Over the life of a company, the net cash increase or decrease will equal the total reported net income or loss. However, because the Income Statement and the Balance Sheet use the Accrual Accounting Method and the Statement of Cash Flow uses the Cash Method, over the short-term net income will not equal cash flows.

Quality of Earnings refers to how closely income correlates with cash flow. The higher the correlation between net income and cash flow, the higher the earnings quality.

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