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How To Prepare a Cash Flow Statement 
 
by kmhagen June 21, 2005

The balance sheet, income statement, and cash flow statement are the three generally accepted financial statements used by most businesses for financial reporting.  All three statements are prepared from the same accounting data, but each statement serves its own purpose.  The purpose of the cash flow statement is to report the sources and uses of cash during the reporting period. 

Structure of the Cash Flow Statement

The most commonly used format for the cash flow statement is broken down into three sections:  cash flows from operating activities, cash flows from investing activities, and cash flows from financing activities.

Cash flows from operating activities are related to your principal line of business and include the following:

  • Cash receipts from sales or for the performance of services
  • Payroll and other payments to employees
  • Payments to suppliers and contractors
  • Rent payments
  • Payments for utilities
  • Tax payments

Investing activities include capital expenditures – disbursements that are not charged to expense but rather are capitalized as assets on the balance sheet.  Investing activities also include investments (other than cash equivalents as indicated below) that are not part of your normal line of business.  These cash flows could include:

  • Purchases of property, plant and equipment
  • Proceeds from the sale of property, plant and equipment
  • Purchases of stock or other securities (other than cash equivalents)
  • Proceeds from the sale or redemption of investments

Financing activities include cash flows relating to the business’s debt or equity financing:

  • Proceeds from loans, notes, and other debt instruments
  • Installment payments on loans or other repayment of debts
  • Cash received from the issuance of stock or equity in the business
  • Dividend payments, purchases of treasury stock, or returns of capital

Cash for purposes of the cash flow statement normally includes cash and cash equivalents.  Cash equivalents are short-term, temporary investments that can be readily converted into cash, such as marketable securities, short-term certificates of deposit, treasury bills, and commercial paper.  The cash flow statement shows the opening balance in cash and cash equivalents for the reporting period, the net cash provided by or used in each one of the categories (operating, investing, and financing activities), the net increase or decrease in cash and cash equivalents for the period, and the ending balance.

There are two methods for preparing the cash flow statement – the direct method and the indirect method.  Both methods yield the same result, but different procedures are used to arrive at the cash flows.

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