The Three Parts of Cash Flow Statements Explained

The cash flow statement is the newest of the three financial statements; companies have only been required to furnish investors with it since 1988. The cash flow statement is similar to the income statement, except that it dispenses with some of the abstract items found on the income statement (such as depreciation) and focuses on actual cash. Most of the information found on the cash flow statement is contained in either the income statement or the balance sheet, but here it is organized in such a way that it is difficult for companies to use accounting tricks to obscure the facts. The cash flow statement is broken down into three parts:

Cash Flows from Operating Activities

Here you'll find how much money the company received from its actual business operations.
This does not include cash received from other sources, such as investments. To calculate the cash flow from operating activities, the company starts with net income (from the income statement), then adds back in any depreciation expenses, deferred taxes, accounts payable and accounts receivables, and one-time charges.

Cash Flows from Investing Activities

This section shows how much money the company has received (or lost) from its investing activities. It includes money that the company has made (or lost) by investing its excess cash in different investments (stocks, bonds, etc.), money the company has made (or lost) from buying or selling subsidiaries, and all the money the company has spent on its physical property, such as plants and equipment.

Cash Flow from Financing Activities

This is where the company reports the money that it took in and paid out in order to finance its activities. In other words, it calculates how much money the company spent or received from its stocks and bonds. This includes any dividend payments that the company made to its shareholders, any money that it made by selling new shares of stock to the public, any money it spent buying back shares of its stock from the public, any money it borrowed, and any money it used to repay money it had previously borrowed.

Free Cash Flow

While free cash flow doesn't receive as much publicity as earnings do, it is considered by some experts to be a better indicator of a company's bottom line. Free cash flow is the amount of cash that a company has left over after it has paid all of its expenses, including investments. Whereas earnings reports are subject to a number of different accounting tricks which can artificially boost the bottom line, free cash flow is not. It is quite possible, for example, for a company to have positive earnings and negative free cash flow. Negative free cash flow is not necessarily an indication of a bad company, however; many young companies tend to put a lot of their cash into investments, which diminishes their free cash flow. But if a company is spending so much cash, you should probably be investigating why it is doing so and what sort of returns it is earning on its investments.
By InvestorGuide Staff

Copyrighted 2020. Content published with author's permission.

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