The statement of cash flows is one of the main financial statements produced by a business, alongside the the income statement and balance sheet. It is an essential document for evaluating the sources and uses of cash for an organization. It is especially important for deriving a business valuation, since many valuation methods are based on a firm’s net cash flows.
A statement of cash flows contains information about the flows of cash into and out of a company, and the uses to which the cash is put. The statement is comprised of three sections, in which are presented the cash flows that occurred during the reporting period relating to the following topics noted below. The statement of cash flows is closely examined by financial statement users, since its detailed reporting of cash flows can yield insights into the financial health of a business.
Cash flows from operating activities refer to the primary revenue-generating activities of an entity, such as cash received from the sale of goods or services, royalties on the use of company-owned intellectual property, commissions for sales on behalf of other entities, and cash paid to suppliers.
Cash flows from investing activities contains the sum total of the changes that a company experienced during the reporting period in investment gains or losses, as well as from any new investments in or sales of fixed assets.
Cash flows from financing activities contains the sum total of the changes that a company experienced during a designated reporting period that were caused by transactions with owners or lenders to either provide long-term funds to the company or to return those funds to the owners or lenders.
The most commonly used format for the statement of cash flows is called the indirect method. This approach requires less effort to complete than the direct method (which is discussed next), and so is preferred by most organizations. The general layout of an indirect method statement of cash flows is shown below, along with an explanation of the source of the information in the statement. The sources of information appearing in the table can be used to prepare a cash flow statement.
ABC Company
Statement of Cash Flows (indirect method)
for the year ended 12/31/20X1
| Line Item | Derivation |
| Cash flows from operating activities | |
| Net income | From the net income line on the income statement |
| Adjustments for: | |
| Depreciation and amortization | From the corresponding line items in the income statement |
| Provision for losses on accounts receivable | From the change in the allowance for doubtful accounts in the period |
| Gain/loss on sale of facility | From the gain/loss accounts in the income statement |
| Increase/decrease in trade receivables | Change in trade receivables during the period, from the balance sheet |
| Increase/decrease in inventories | Change in inventories during the period, from the balance sheet |
| Increase/decrease in trade payables | Change in trade payables during the period, from the balance sheet |
| Cash generated from operations | Summary of the preceding items in this section |
| Cash flows from investing activities | |
| Purchase of fixed assets | Itemized in the fixed asset accounts during the period |
| Proceeds from sale of fixed assets | Itemized in the fixed asset accounts during the period |
| Net cash used in investing activities | Summary of the preceding items in this section |
| Cash flows from financing activities | |
| Proceeds from issuance of common stock | Net increase in the common stock and additional paid-in capital accounts during the period |
| Proceeds from issuance of long-term debt | Itemized in the long-term debt account during the period |
| Dividends paid | Itemized in the retained earnings account during the period |
| Net cash used in financing activities | Summary of the preceding items in this section |
| Net change in cash and cash equivalents | Summary of all preceding subtotals |
A less commonly-used format for the statement of cash flows is the direct method. The general layout of the direct method statement of cash flows is shown below, along with an explanation of the source of the information in the statement. This information can be used to prepare a cash flow statement.
ABC Company
Statement of Cash Flows (direct method)
for the year ended 12/31/20X1
| Line Item | Derivation |
| Cash flows from operating activities | |
| Cash receipts from customers | Summary of the cash receipts journal for the period |
| Cash paid to suppliers | Summary of the cash disbursements journal for the period (less the financing payments noted below) |
| Cash paid to employees | Summary of the payroll journal for the period |
| Cash generated from operations | Summary of the preceding items in this section |
| Interest paid | Itemized in the cash disbursements journal |
| Income taxes paid | Itemized in the cash disbursements journal |
| Net cash from operating activities | Summary of the preceding items in this section |
| Cash flows from investing activities | |
| Purchase of fixed assets | Itemized in the fixed asset accounts during the period |
| Proceeds from sale of fixed assets | Itemized in the fixed asset accounts during the period |
| Net cash used in investing activities | Summary of the preceding items in this section |
| Cash flows from financing activities | |
| Proceeds from issuance of common stock | Net increase in the common stock and additional paid-in capital accounts during the period |
| Proceeds from issuance of long-term debt | Itemized in the long-term debt account during the period |
| Principal payment under capital leases | Itemized in the capital leases liability account during the period |
| Dividends paid | Itemized in the retained earnings account during the period |
| Net cash used in financing activities | Summary of the preceding items in this section |
| Net change in cash and cash equivalents | Summary of all preceding subtotals |