How cash flow statements can lead to business success
Cash flow statements help small business owners make smart financial decisions. Presented by Chase for Business.
- A cash flow statement shows how cash moves into and out of your business, helping you track how your business spends and makes money.
- This statement is key to maintaining your financial health, including your ability to keep day-to-day operations running smoothly and position your business for growth.
- Every cash flow statement consists of three sections: cash from operating activities, cash from investing activities and cash from financing activities.
As a business owner, you probably think profits and revenue are the markers of your success. But monitoring cash flow — how much cash is coming into and going out of your business each month — may be just as important. And the best way to monitor it? Cash flow statements.
Tracking and effectively managing your cash flow can help you make informed financial decisions, secure financing and position yourself for growth.
What is a cash flow statement?
A cash flow statement summarizes how much cash is entering and leaving your business over a given time period. It shows you the real dollars flowing through your doors beyond just profits on paper. Your cash flow statement breaks down your expenses and revenue into three categories:
- Operating activities —Your operating cash flow outlines how money moves into and out of your business each day. It includes income from product sales and expenses such as payroll, rent and cost of materials.
- Investing activities — Cash from investing tracks the money spent on investments and long-term assets that support your growth, like new equipment or a second location.
- Financing activities — Financing cash flow includes business loans and other outside funding. This can consist of money received from a loan or a business line of credit, as well as debt repayment.
How cash flow statements fit into your financial reporting
Along with income statements and balance sheets, cash flow statements are part of a business’s core financial documents:
- Income statements show revenues earned and expenses incurred over a period of time. They show your business’s overall profitability but not its cash balances.
- Balance sheets summarize assets, liabilities and equity at a single point in time, but they don’t track cash flow.
- Cash flow statements complement income statements and balance sheets by tracking ingoing and outgoing cash. They show how much cash a business has on hand.
Monitoring all three statements together can give you a better idea of the financial health of your business.
Example of a cash flow statement
To help you understand the types of information and insights a cash flow statement can offer your business, let’s take a look at an example from a fictional bakery, Company A. Keep in mind that your cash flow statement may use different line items.
Company A cash flow statement
Quarter Ended December 31
- Operating Activities
- Cash sales: $25,000
- Accounts receivable: $15,000
- Ingredients: –$14,000
- Payroll: –$10,000
- Utilities: –$3,000
- Rent: –$5,000
- Total operating cash: $8,000
- Investing activities
- New oven: –$10,000
- Mixer upgrade: –$3,000
- Total investing cash: –$13,000
- Financing activities
- Loan received: $15,000
- Loan payment: –$5,000
- Total financing cash: $10,000
- Net cash increase: $5,000
With a baseline quarterly cash flow statement complete, the bakery owner can now see clearly how much money is flowing into and out of the business. Company A’s net cash increase was $5,000 for the quarter, but looking deeper, there are places to improve:
- Operating activities netted $8,000 this quarter, which captures total cash sales, accounts receivable and operating expenses.
- The owner spent $13,000 on investments, creating a $5,000 deficit between the cash they paid out and the cash they took in through day-to-day operations.
- Financing activities brought in $10,000 from loans, which helped fill the $5,000 cash deficit.
Why cash flow statements are useful
Getting into the habit of cash flow analysis is valuable for business owners. Your cash flow statement provides insights into your business’s liquidity, cash balance and future cash flow projections, which can help you make better financial decisions. For example, business owners can use cash flow statements to:
- Check available cash to cover upcoming bills and expenses and ensure you can make on-time payments, potentially avoiding late fees and interest owed
- Analyze data over time to identify and address low cash flow issues, like declining sales or high investments
- Assess whether net cash flow covers monthly debts and operating costs so you can keep business moving smoothly
- Use trends to budget and plan spending for future periods, including making investments in your business growth
Investors and lenders also care about your cash flow. They typically require a record of positive cash flow statements — along with your income statement and balance sheet — as part of the application process for a loan or a line of credit.
How cash flow can affect your business
Cash flow analysis is a key way to measure the health of your business. A positive cash flow means that you’re bringing in more money than you’re spending, which lets you invest in new opportunities and build a cash buffer — savings that you can use to cover unexpected expenses and weather economic headwinds. On the other hand, negative cash flow can lead to challenges like missed payments, which can damage vendor relationships.
Just because a business is profitable doesn’t guarantee that it has a positive cash flow. For example, a business with a backlog of unpaid invoices might be profitable on paper but not have enough cash on hand to pay its bills. Regularly checking your cash flow can help you catch these types of issues and address them early.
How to read a cash flow statement
Your cash flow statement is divided into three sections: operating, investing and financing. Within each category, separate line items capture your revenue and expenses. Numbers in parentheses represent negative cash flow leaving your business.
Once you have calculated all three sections of your cash flow statement separately and then together, you will end up with either a positive or negative result.
A positive cash flow shows that your business has more cash coming in than going out. While that’s generally a good thing, you need to look below the surface to see where the extra cash is coming from. For instance, a small business loan adds value to your cash flow in the financing activities section because it’s categorized as incoming money. If you take on too much debt though, you could find yourself in financial straits while still maintaining a positive cash flow.
On the other hand, a negative cash flow means that more money is going out than coming in. While that could indicate problems in the long run, short-term negative cash flow is common among early-stage businesses getting off the ground. In fact, many startups use negative cash flow to track how quickly they’re spending money and forecast when their operations will become profitable.
How to prepare a cash flow statement
Learning how to prepare a cash flow statement is an important skill for small business owners to master. It involves gathering your financial data, organizing it into categories, and doing some basic math or setting up formulas. To create your cash flow statement, you can use a simple spreadsheet or specialized accounting software. You can even find templates online to help you get started.
While every business will have its own unique process, these are the general steps to creating a cash flow statement:
- Choose your accounting method. There are two methods for calculating cash flow: direct and indirect (more on that below).
- Gather your financial documents. The more accurate your data is, the more useful your cash flow statement will be. Collect your financial records before you start, including your income statement, balance sheets and bank statements.
- Calculate your operating cash flow. If using the indirect method, begin with your net income, then add back non-cash expenses and adjust for changes in current assets and liabilities (like accounts receivable and payable). If using the direct method, list all cash inflows from operating activities and deduct all operating cash outflows.
- Calculate your investing cash flow. Identify changes in long-term assets, including cash flows from the purchase and sale of property and equipment or investments in securities.
- Calculate your financing cash flow. Look for changes in your debt and equity, including inflows like the value of a new loan and outflows such as debt repayments.
- Determine your net increase or decrease in cash. Add up your operating, investing and financing figures to find the net change in your cash balance during the reporting period.
- Find your ending cash balance. Add the net increase or decrease in cash to your beginning cash balance. The resulting figure should match the cash balance on your balance sheet.
- Review and analyze. Double-check your cash flow statement for accuracy, then look for trends in your cash inflows and outflows. Negative trends could indicate challenges in the road ahead, while positive trends open opportunities to build your cash buffer or reinvest in your business. Make sure there’s enough operating cash flow to cover investments and financing needs, and notice if there are any unusual patterns that require a closer look.
What is the formula for cash flow?
There are two basic accounting methods for calculating cash flow: direct and indirect.
The direct cash flow method lists every transaction for the given period on the cash flow statement, including line items like customer payments, payroll and supplier invoices. This method is less common but can be useful for small businesses without a high transaction volume.
Most businesses choose the indirect method, which uses accrual accounting and information from your other financial documents. Your accountant starts with your net income and adjusts it for non-cash items from your income statement, such as depreciation and amortization.
Additional types of cash flow formulas — such as your free cash flow, available cash flow and cash flow forecast — can provide more insights and information about your business.
Using cash flow statements to build your business
Preparing regular cash flow statements can give you a powerful tool for keeping your business financially healthy. Look at trends over time in each section. Where are cash surpluses or deficits arising? For example, you may experience shortfalls in cash during busy seasons when you overspend on inventory and supplies. You can plan ahead for that next year.
With a solid foundation of cash management in place, you can focus on doing what you love most while making better-informed business decisions behind the scenes. Managing cash flow helps take a lot of the financial guesswork out of running your business. And for your business it can mean the difference between thriving and just getting by.
Looking to take your business finances to the next level? Reach out to a Chase business banker today. We’re always ready to help.
