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Cash is King: Understanding Your Cash Flow Statement

One of the most important financial statements for a business is the cash flow statement. The cash flow statement is the best resource for testing a company’s liquidity and short-term viability. It records the inflows and outflows of a business’s cash and cash equivalents, therefore showing how a company spends and receives cash.

This article will explain how a cash flow statement is prepared based on its different components.

Operating Activities

Operating activities converts the income statement items from accrual basis of accounting to cash. For example, depreciation is not considered a cash item since it is an amount deducted from an asset that has already been accounted for and is added back to net income. By doing this, a business can evaluate their core business operations and determine how much cash is being generated from the business’s operations. A strong, positive cash flow from operations is a good sign of a healthy business making it one of the most important components of the cash flow statements.

Investing Activities

Investing activities report the purchases (outflow) and sales (inflow) of long-term investments, property, plant and equipment and other long-term assets. These activities are reported separately from operating activities because businesses do not want to mislead users of the financial statements on how well their business is doing from an operational standpoint. For example, proceeds from a sale of equipment does not reflect their core business operations. Typically, purchases and sales of long-term assets do not happen often and are not a core business operation. However, a healthy company generally invests continually in long-term assets.

Financing Activities

Financing activities reports the borrowing effects on the business’s cash flows. For example, if a business receives proceeds (inflow) from a loan or makes payments (outflow), those are considered financings activities. This component also includes issuance (inflow) of and repurchase (outflow) of a business’s own bonds, stocks, and payment of stockholder dividends.

Supplemental Information and Non-Cash Activities

The supplemental information reports the transactions of significant items that do not involve cash and reports the amount of income taxes paid and interest paid. For example, if a business acquires new equipment by taking out a new loan, this section will report this activity since no cash was received or used for this transaction.


After calculating the total cash inflow and outflow for each of the three components, the net increase (decrease) in cash and cash equivalents is added to the cash balance at the beginning of the year. This will equal the cash balance reported on the balance sheet. It is important for users of financial statements to examine all sections of the cash flow statement to determine how healthy your business is. For help in preparing your business’s cash flow statement, please contact us.



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