Understanding the Purpose of a Cash Flow Statement

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Business owners might know how critical it is to keep an eye on their cash flow and how big a role it plays in ensuring the success of a business. Out of the three most important financial statements — an income statement, a balance sheet, and a cash flow statement — the latter focuses mostly on cash, showing all business cash inflows and outflows. It’s an important document a business owner can get using an accounting app or asking an accountant to create it, and we’ll look closer at the purpose of a cash flow statement in this article.

What is a cash flow statement?

Financial statements are integral to business accounting. A cash flow statement is a financial statement that details a company’s cash inflows and outflows over a given period. 

Essentially, it is a report card for your business’s cash. A cash flow statement typically covers 12 months or one full fiscal year. Some companies prefer a shorter period to analyze, such as the final month or the first quarter of the year. 

Preparing a cash flow statement is often the responsibility of your CFO or a financial analyst. However, it is also something that you, as an entrepreneur, should understand and be able to read. The point is, knowing your company’s cash flow enables you to control your business’s finances and make better decisions on how you distribute your resources.

So, what’s the purpose of a cash flow statement?

The purpose of a cash flow statement is to provide insight into the amount of cash coming in and out of business. It is a financial statement that helps reveal the overall health of a company. 

A cash flow statement helps you plan for future needs and investments and identify areas where cash flow needs to be improved. It provides detailed information on the sources and uses of funds in the business over a given period. A cash flow statement can highlight which activities generate the most revenue and consume the most resources. So you can decide on how to improve profitability or the overall strategy for financial planning based on accurate financial data. 

A cash flow statement also helps track changes in cash balance over time by showing the net cash flow balance at the end of each period. By measuring current performance against past results, businesses can identify any issues related to their operations or liquidity position. It can also help forecast future cash requirements based on expected sales and expenses, helping a business plan accordingly. 

Overall, the purpose of a cash flow statement is to provide detailed information about a business’s financial position and performance.

How to read a cash flow statement

As a business owner, you need to know how to read a cash flow statement, as it provides insight into the overall health of your business, breaking down the money movement over a set period and helping identify the trends in cash flow. 

The cash flow statement includes three main parts: operating activities, investing activities, and financing activities. 

Operating activities refer to all cash transactions related to the primary activity of a business. These include daily operational expenses such as payroll, rent, utilities, and inventory purchases.

Investing activities are related to any investment made by the company. These may include property purchases, investments in stocks, bonds, or other financial instruments, and acquisitions made by the company. 

Finally, financing activities refer to any money raised or spent by the company on debt repayment or equity issuance. Examples of financing activities include issuing new shares in the company, repayment of loans, etc. 

It is important to note that you can’t judge how well a business performs until you consider all parts of a cash flow statement. Each aspect provides valuable information about the current financial standing of a company, helps business owners identify certain trends, and make better decisions on how to manage their finances. Besides, a thorough analysis of a company’s cash flow statement can help guide decision-makers toward sound investments, as well as the way of cash flow statement preparation.

Closing remarks

As an owner or manager, you must understand the purpose of a cash flow statement as a critical tool for managing your company’s finances and making informed business decisions. A cash flow statement allows you to track your company’s cash, the effectiveness of cash flow forecasting, and identify areas for improvement. With this knowledge, you can become more confident in managing your finances and making sound decisions to streamline your business.

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Read more about cash flow Disbursement vs Reimbursement.

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