Liquidity Analysis: It reveals how much cash a company generates and spends over a particular period, providing insight into the company's liquidity or its ability to cover short-term liabilities.  The profit and loss can be misleading from a liquidity perspective so we often hone in on the CF statement for clients who are in turmoil. 

Quality of Earnings: By comparing net income from the income statement to net cash from operating activities, you can determine the "quality" of a company's earnings. If a company's operating cash flow is consistently higher than net income, earnings are said to be of high quality.

Investment Insight: It provides investors and creditors with a clear picture of a company's ability to generate positive cash flows, invest in the business, return cash to shareholders, and repay its debts.  Often times, those acquiring businesses will run this statement month by month over several years to see if a business is capable of investing cash back into operations and to see if there are major seasonal cash flow issues.

Future Forecasting: Cash Flow Statements help in forecasting future cash flows, which is crucial for budgeting and planning.

The Cash Flow Statement is typically divided into three sections:

Operating Activities: This section reveals cash generated from primary business operations. It tells you how much cash the company's core business operations have generated during a specific period. If a company cannot generate sufficient cash from operations, it may not be sustainable in the long run.  

For example, if you log into you bank every morning to check your cash balance, this is a dangerous game.  That simply has little indication to the overall health of your business and we call this the "bank balance accounting trap".  In fact, we've seen businesses nearly go under from focusing too much on a bank balance.

Investing Activities: This includes cash flows from the purchase and sale of assets, such as real estate and equipment, and investments in securities/crypto etc. It provides insight into how much the company is investing back into its business.  

If you consistently see no investment back into the business that could be a sign that there is not adequate cash flow.  However, it can be misleading as most of our service based clients investments are in the form of human capital. 

Financing Activities: This section shows cash flows from borrowing and repaying loans, issuing and buying back shares, and paying dividends. This section tells you how a company raises capital and pays it back to investors.  It can also provide warning signs around a companies debt stack. 

Here are some key indicators to assess the strength or weakness of a cash flow statement:

Positive Cash Flow from Operating Activities: This is a strong sign. It means the company's core business operations are generating more cash than it uses, providing the capital necessary to maintain and grow the business.

Capital Expenditure: While some capital expenditure is essential for growth, a consistently high CapEx might indicate that the company is investing heavily for future growth. It's a good sign if the company can cover these expenses with cash from operating activities.

Dependence on Financing Activities: If a company is continually raising cash through financing activities to fund operations and investments, it may indicate a weak business model or a period of strategic growth. Context is key in this analysis. Some startups must depend on financing in early years to scale, so this is not always a bad thing.

Free Cash Flow: This is the cash left after deducting capital expenditures from cash from operations. A positive free cash flow indicates a financially strong company.

NO! Do not fall into this trap!

• Profit & Loss Statement: It provides insights into a company's ability to generate profit by increasing revenue, reducing costs, or both. The profit or loss calculated does not necessarily correlate with the company's cash holdings, as it includes credit transactions.
• Statement of Cash Flows: It provides a detailed view of how a company is generating cash and using it for business operations, investing, and financing activities. 
  • It's especially important for understanding the short-term viability of a company, specifically its ability to pay bills.

Starting today, focus on your Cash Flow statement!  Buying a business?  Focus on the cash flow statement to see how much cash the prior owners have taken out of the business. Has it been consistent? Choppy?  See what type of insights you can find.

As always, please reach out to your Project Manager to discuss further.