Everything You Always Wanted To Know About Cash Flow Statements But Were Afraid To Ask

 In Accounting & Taxes, Featured Stories, Financing

Editor’s Note: This is one of an eight-part series about key financial terms all entrepreneurs should know. 

Never heard the term “Cash Flow Statement”? The good news is that it’s almost exactly what it sounds like! And, by the end of this article, even a financial-terms-novice can feel comfortable reviewing and discussing a cash flow statement with his or her CPA or CFO.

Feeling comfortable with a cash flow statement is imperative, because these reports are critically important to your business. In fact, CPA and entrepreneur, Bradley Klingsporn, founder of Green Bay’s Aardvark Wine Lounge, says “Many small business owners and small business accountants believe that the cash flow statement is more important than an income statement.” That’s because, “[if] the business is making huge profits, but doesn’t have anything in the bank, it won’t be able to pay its bills and it could still go under. Keeping a close eye on the cash balance is as, if not more, important than keeping an eye on the bottom line.”

What exactly is a cash flow statement?

A cash flow statement is a financial report that shows the amount of cash and cash equivalents used by a company in a given period. Cash flow statements contain three main categories. The three categories are cash flow from:

  1. operating activities
  2. investing activities
  3. financing activities.

Taken together, these three groups account for all cash coming into and going out of a business.

Why are cash flow statements important?

Staying on top of cash balance is critical to the health of a business.  This is of particular importance if you’re a business who is likely to raise money at some point. And knowing your “runway” — or how long you’re able to operate with the cash you have on-hand at the moment — is key.

When reviewing cash flow statements, entrepreneurs should be asking if the cash flows are sustainable. “If cash decreased in the period, was this because of a change that period? For example a capital purchase or large debt payment.  Or is this going to persist? For example, regular loan payments)?” Klingsporn asks. “If cash decreases are expected, is there a need for additional cash inflows? If so, how will the business get the additional cash?”

How can cash flow statements impact your financing options?

Cash flow statements allow potential financing partners to assess a company’s general health, including how quickly your company will be able to pay off outstanding debts. Although it’s not imperative to have a high cash flow to borrow money, lenders may favor companies that do. The more positive a cash flow statement looks, the easier time you likely to have securing favorable financing options.

Can I create my cash flow statement?

If you’re in the early stages of looking to raise capital and have never put together or reviewed a cash flow statement, Klingsporn’s advice is to bring in an expert. “Hire an accountant,” he says. “If you don’t want to do that, the basic process is to identify cash inflows and outflows that don’t affect net income and expenses and income that doesn’t affect cash. The former would include principal loan payments, cash from new debt, and purchases or sales of capital equipment. The latter would include depreciation and changes in receivables or payables. If that sounds confusing, see the first sentence.”

What’s next?

Just like it’s easier to travel in a foreign country when you know the language, it’s easier to raise capital (or secure any kind of funding for your business) when you’re familiar with key financial terms and their real-life applications.  Check out the other installments in this series covering The next installment of this series, where you will learn everything you wanted to know about turnover ratiodebt to income ratiopayables turnover ratiodebt service coverage ratio and current ratio

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