Cash Flow Statement

Written By:
Paul Tracy
Updated August 12, 2020

What is a Cash Flow Statement?

A cash flow statement is the financial statement that measures the cash generated or used by a company in a given period.

How does a Cash Flow Statement work?

A cash flow statement typically breaks out a company's cash sources and uses for the period into three categories: cash flow from operating activities, cash flow from investing activities, and cash flow from financing activities. It is important to note that cash flow is not the same as net income, which includes transactions that did not involve actual transfers of money (depreciation is common example of a noncash expense that is included in net income calculations but not in cash flow calculations).

Cash flow from operating activities are generally calculated according to the following formula:

Cash Flows from Operations = Net income + Noncash Expenses + Changes in Working Capital

Because working capital is a component of cash flow from operations, investors should be aware that companies can influence cash flow by lengthening the time they take to pay the bills (thus preserving their cash), shortening the time it takes to collect what’s owed to them (thus accelerating the receipt of cash), and putting off buying inventory (again thus preserving cash).

Cash flow from investing activities primarily reflect the company's purchases or sales of capital assets (that is, assets with a useful life of more than one year that appear on the balance sheet). It is important to note that companies have some leeway about what items are or are not considered capital expenditures, and the investor should be aware of this when comparing the cash flow of different companies.

Cash flow from financing activities typically reflect the company's purchase or sale of stock and any proceeds from or payments on debt financing. The measure varies with the different capital structures, dividend policies, or debt terms companies may have.

Why do Cash Flow Statements matter?

No matter how one measures it, cash flow helps companies expand, develop new products, buy back stock, pay dividends, or reduce debt. This is why some people value cash flow statements more than just about any other financial statement or measure out there, including earnings per share. Cash flow relies heavily on the state of a company’s cash from operations, which in turn is heavily influenced by a company’s net income. Thus, higher revenues, lower overhead, and more efficiency are big drivers of cash flow.

Without positive cash flow, a company may have to borrow money to do these things, or in worse cases, it may not stay in business. It is important to note, however, that having negative cash flow for a time is not always a bad thing. If a company is a net spender of cash for a time because it is building a second manufacturing plant, for example, this could pay off in the end if the plant generates more cash. On the other hand, if the company has a negative cash flow because it made a poor acquisition or other investment, then the long-term benefit might not be there.

Investors often hunt for companies that have high or improving cash flow but low share prices--the disparity often means the share price will soon increase.