1.1.3. Cash Flow Statement
The cash flow statement records how much cash a firm is generating, where the cash comes from, and how it is spent. Like the income statement, the cash flow statement covers a period of time (unlike the balance sheet, which provides a snapshot of a moment in time). It differs from an income statement in that it does not include non-cash entries, such as depreciation expenses, and it does include capital expenditures and changes in inventory, accounts receivable, and accounts payable.
The cash flow statement is divided into three sections. The Cash Flows from Operating Activities section deducts non-cash activity from net income as reported on the income statement, including the increase or decrease in accounts receivable, accounts payable, and inventory from the previous period. An increase in accounts receivable, for example, reduces cash on hand because it reflects sales made on credit that have not yet been converted to cash. An increase in accounts payable adds to cash on hand because it reflects purchases made on credit and not yet paid. A net increase in unsold inventory is an expense that impacts a firm’s cash balance but is not reflected on the income statement. Finally, depreciation is an accounting expense that does not affect cash flows, so it must be added back in to the cash flow statement.
The Cash Flows from Investment Activity section includes capital expenditures, such as the purchase of new plant, equipment, and property. These do not appear on the income statement. Instead, the costs of these long-term investments are depreciated over time. In the cash flow statement, these costs are deducted as an immediate expense, and depreciation is factored back in. Other acquisitions are deducted also, such as investments in money market funds.
Finally, the Cash Flows from Financing Activities section includes cash inflows from new debt or a new issuance of stock and cash outflows from the payment of dividends.