Cash is the lifeblood of every business. Run out of cash, and you’re dead in the water—you can’t pay your bills or make payroll.
To prevent this horrible situation from ever happening, it’s critical to understand your cash flow statement, and ideally keep an updated cash flow forecast handy.
The basics of the cash flow statement
Let’s start out with the basics:
Your cash flow statement shows how cash is moving in and out of your business. A typical cash flow statement will show how cash moves through your business during a certain period of time, like last month or last quarter.
For example, last month you might have paid $10,000 in bills and received $15,000 in cash from your customers. In this case, your total cash flow would be $5,000. Here’s the basic formula:
Cash Flow = Cash Received – Cash Paid Out
A cash flow forecast is only different from a statement in that the forecast is predicting the future of your cash flow. The forecast can help you predict when you might run low on cash in the future or when you might be flush with cash and ready to expand or purchase that new truck or another piece of equipment.
Cash flow statements and forecasts do tend to be a little more complicated than the formula above, so let’s dive in a bit deeper to explain each line and how they work.
But, before we do that, let’s take a quick moment to remember that cash and profits are two different things.
The difference between cash and profits
The easiest way to explain this is with a simple example.
Let’s say you sold $10,000 worth of consulting services last month, but your customer hasn’t paid you yet. You would record this sale to show that you had $10,000 in sales and then subtract your expenses (rent, office supplies, and so on) to calculate your profit. Let’s just say you had $5,000 worth of expenses. That means that you made a $5,000 profit last month.
Sales – Expenses = Profit
But remember: Your customer hasn’t paid you yet.
You probably sent them an invoice that said “net 30” or something like that on it. So, that $10,000 isn’t in your bank account yet. You did make a profit, but you haven’t collected the cash yet. Cash and profits are different.
Want more detail on that? Check out our more detailed article on cash versus profits.
Understanding the details of your cash flow statement
Now that we have the cash versus profits issue out of the way, let’s dive into explaining your cash flow statement. I’ll go line-by-line and explain what each line means and where the numbers come from.
Cash flow calculations can be tricky, so I typically recommend that you use a tool to help you do this to avoid mistakes and errors. LivePlan can handle all of the cash flow calculations for you, if you need the extra help.
The net profit here is your profits from your Profit and Loss Statement (P&L). If the number is negative, this means that you took a loss—your expenses were greater than the sales that you made during that month.
Depreciation and Amortization:
When you purchase an asset (like a vehicle or other large piece of equipment), the cost of that asset is broken up on your Profit and Loss Statement.
Even though you may have paid cash up-front for that asset, it doesn’t impact your profitability all at once. Instead, you recognize that purchase over many months—usually over the entire useful life of the asset. This prevents your profitability from having large and misleading changes. On the cash flow statement, we need to add that back in, since it was subtracted as an expense on your Profit and Loss Statement.
Change in Accounts Receivable:
If you bill your customers and they pay you 30 or 60 days after you have billed them, this line will show how that impacts your cash.
If the number is negative, that means that your customers owe you money. If all of your customers pay you in cash when they make a purchase from you, then this line will usually be $0. Most companies have a mix of customers who pay cash, and others who get billed.
Change in Inventory:
If your company has inventory, you’re probably going to be buying inventory before it gets sold. When you purchase inventory, you don’t count it as an expense on your Profit and Loss Statement. Instead, the cost of that inventory purchase shows up here on your cash flow statement. You’ll expense the inventory as you sell it, and that’s when it will show up on your Profit and Loss.
So, if you have a negative number here, that means that you’ve purchased more inventory than you’ve sold. If you have a positive number, that means that you have purchased less inventory than you have sold.
Change in Accounts Payable:
Accounts payable is when you owe money to your vendors and suppliers. Just like how your customers might not pay you right away, you might not pay your vendors right away when you get the bill.
If the number here is positive, you have bills that you need to pay but you haven’t paid yet. That cash is still in your bank account. If the number happens to be negative, that means that you’ve overpaid your bills.
Change in Income Taxes and Sales Tax Payable:
If you collect sales tax (or VAT, HST, GST, and so on) when you make a sale, and then have to give that money to the government, you’ll show that number here.
A positive number means that you have collected tax from your customers during the past month but not paid it to the government yet. A negative number means that you have paid more money to the government during the month than you have collected from the government.
Assets Purchased or Sold:
When you buy an asset, like a vehicle or a piece of equipment, you’ll subtract that cash from this line.
If you borrow money to buy an asset, the cash payout to handle the loan will show up a few lines below this one. If you sell an asset, the proceeds from that sale will show up here.
If you get investors to invest in your company, you’ll show that incoming cash here, on this line.
Dividends and Distributions:
If your company pays out dividends to its owners or makes any other kind of cash distribution that isn’t salary, you’ll show that number here.
Change in Short-Term Debt/Change in Long-Term Debt:
These two lines operate the exact same way, but are split up to differentiate the different types of loans or debt that your company is taking on.
Short-term debt is usually paid back within a year, while long-term debt can take much longer to pay off. If the numbers here are positive, that means that you’ve brought more cash into your business via loans that month than you’ve paid off. If the number is negative, that means that you are paying off more than you are have borrowed during that month.
Cash at Beginning of Period:
This is how much cash you have at the start of the reporting period. So, if the reporting period for your cash flow statement is one month, this is how much cash you had at the beginning of the month.
You’ll apply all of the various changes to your cash that happened during that period to this number.
Net Change in Cash:
Once you’ve totaled up all of the changes in cash that have happened during your reporting period, you’ll show that number here.
This is basically the sum total of all the lines that we’ve defined here in this post (except for “cash at beginning of period”).
Cash at End of Period:
Finally, take your cash from the beginning of the period, add (or subtract) the change in cash during the period, and you’ll end up with how much cash you have at the end of the period.
I hope this helps you make sense of your cash flow statement. It may seem complex, but just remind yourself that it’s simply the cash that’s moving into and out of your business. And, it’s a critical tool to understand how your business is doing.
More importantly, you should forecast cash flow on a regular basis to ensure that you’re going to have enough cash on hand to keep your business running. After all, it’s much easier to open a line of credit or get a business loan when your business is healthy than when it is in the middle of a cash crunch.
If you have questions, please post them in the comments below.