Cash Flow Statement: Demystified & Explained (For Beginners)

In a set of financial statements, the reader can find a wide range of information about the financial situation of a company. People often look at the balance sheet or income statement and omit how important the cash flow statement can be.

We will demystify the cash flow statement, explain what it is, the types of cash flows and ultimately help you understand everything about cash flow.

cash flow statement explained for beginners

Cash Flow: Definition

Cash flow is the amount of money coming in (inflow) and going out (outflow) of a company as part of daily activities and the overall function of the company. An increase in cash flow can be indicative that the company is healthy and has enough liquidity to cover its obligations. 

The cash flow statement in the financial statement shows how a company generates cash and uses cash. It essentially explains the variance between the cash balance at the end of the previous financial period to the cash balance at the end of the current financial period. 

One thing to note is that a positive cash flow does not mean profit and a negative cash flow does not mean loss. Profit or loss is the result of deducting expenses from revenues whereas cash flow is just how money is used within the company.

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Cash Flow Statement: Indirect Method [Explained & Example]

Cash Flow Types: Operating, Investing and Financing

There are 3 types of cash flows a company can categorize inflows and outflows, which are cash flow from operations, cash flow from investing and cash flow from financing. Let’s look at each of these categories in more detail. 

Cash Flows from Operations

Inflows and outflows directly in relation to a company’s day-to-day operations are classified in the cash flows from operations. In other words, any money received for sales of goods or services or money paid for expenses in the production of those goods or services is part of cash flows from operations.

A positive total cash flow from operations usually indicates that a company generates enough money from sales to cover expenses which indicate overall financial health without the help of external sources.

Cash Flows from Investing

Other than its core operations, a company has multiple ways to earn additional income or spend money. For example, a company can seek additional income by investing funds into securities, bonds or other assets and earn dividends and interest income.

A company can also spend money on research and development in order to improve processes on a long-term basis. Those types of inflows and outflows are categorized within the cash flows from investing.

Generally speaking, if cash flows from investing activities are negative, it isn’t necessarily a bad thing as this could simply mean that the company is diversifying ways of generating income or investing in activities that will benefit the company in the future.

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Income Statement in Accounting: What You Need to Know

Cash Flows from Financing

cash flow statement operating, investing and financing activities

It is normal in practice for companies to seek external help and get funding to finance their operations. This can be done in multiple ways such as borrowing money from a banking institution or issuing shares to investors.

Anything that is related to raising capital can be classified as the cash flows from financing. This type of cash flow can give the reader of the financial statements an image of how the company manages its capital structure.

Cash Flows: Recap and Final Thoughts

In a company, cash flows are inflows and outflows of money.

Presented in the cash flow statement, this report can give an insight into the transactions that happened during a financial period that caused the increase or decrease of the cash balance on the balance sheet between the current financial period and the prior financial period.

There are three types of cash flows, operating, investing and financing. 

  • Operating relates to cash flows used for the core activities of a company.
  • Investing relates to money used for generating other types of income or growth for the company. 
  • Financing is anything that relates to the capital structure of the company whether it’s seeking loans or money from investors. 

A positive cash flow indicates that a company generates more money than it’s spending. A negative cash flow can indicate that a company is spending more than it earns but it could also mean that the company is trying to grow for the long term.

The management of cash flows is an important part of a business and the cash flow statement is a report that can help paint a picture of how money is used within a company.

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