Cash Flow statement is one of the three necessary documents along with balance sheet and profit and loss statement, that needs to be  submitted by public companies. This statement specifically deals with the management of cash in a company. Cash is very important in businesses as many businesses close because the cash in not managed properly. Cash statement helps us to find out the inconsistencies in businesses.

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Benefits of studying cash flow statement:-

1. Assessing cash situation for covering the short term expenses.

2. It tells us about whether operating cash flow will be able to sustain the core business.

3. Establish the connection between profit and cash flow.

4. Evaluating the source of cash-Operating, investing, financing

5. Identifying cash flow issue: Negative cash flow, too much dependence on financing

6. ​Identifying possible manipulation in profit and loss statement

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Cash flow is divided in three sections

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Cash flow from operating activities

1. ​Net income from profit and loss statement.​

2. Adjustment for non cash expenses-Depreciation and Amortisation, stock compensation, Deferred taxes

3. Deferred taxes

4. Changes in working capital

• Accounts Receivable: Decrease is added (cash collected), increase is subtracted (cash tied up in receivables).

• Inventory: Decrease is added (cash freed up), increase is subtracted (cash used to buy inventory).

• Accounts Payable: Increase is added (cash saved), decrease is subtracted (cash paid to suppliers).

• Accrued Expenses: Increase is added (cash saved), decrease is subtracted (cash paid).

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Cash flow from investing activities

1. Capital expenditures

2. Proceed from sale of asset

3. Investment in securities

4. Sale of investments

5. Acquisitions and Divestitures

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Cash flow from financing activities

1. Proceed from taking debt

2. Cash outflow from repaying debt

3.  Proceed from issue of equity

4. Cash flow from repurchasing of equity

5. Cash outflow from dividend issue

6. Other financing activities

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Question: What is the meaning of positive cash flow from operations?

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Answer: Large positive cash flow from operations means that the company is generating good profits due to efficiency in operations. The operations at the present rate might be able to sustain if the cash flow from operation is good. There might not be a need for getting finances to run the business. Consistent large operating cash flow indicates stability in business model.

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Question: What is the meaning of negative cash flow from operations?

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Answer: Negative cash flow from operation is not a good indicator for the company. It shows that the core business is not generating cash to sustainably run without any issue. There can be companies that are reporting profits but are not able to generate positive cash flow because they might be giving high credit period to its customers. The company might be paying the suppliers quickly or is building inventory without sales.

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Question: How can we interpret negative cash flow from investing activities?

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Answer: Generally, negative investing activity might come from high capital expenditure or acquiring new units. Since this appears to be a capacity expansion move, we can assume that this expansion will be able to either give higher output or higher efficiency. So in most cases, negative cash flow from investing is good sign for growth. But if the output does not improve after the capex then the inference is that expansion was not beneficial for the overall company. So if the negative cash flow from investing is followed by results then it is a good sign.

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Question: How can we interpret positive cash flow from investing activities?

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Answer: Positive cash flow might occur when an asset is being sold or a business is being exited. This move can be interpreted as change in strategy and removing access units or unutilized capacity. This means that the company is trying to become lean focus on the core operation. So in this case, we might be witnessing a turnaround process in a company. However, if the company is trying to support operations with cash flow from investing then we can say that the operating business is not good and the company is in distress.

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Question: How can we interpret positive cash flow from financing activities?

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Answer: Positive cash flow from financing activities indicate that the company is trying to raise cash for expansion. The operating cash flows are not able to support the expansion targets and hence the company is trying to raise money through either new equity issue or debt. Generally, this can be considered a good sign as the company is aggressive in terms of growth. This also indicates that the existing shareholders are convinced to raise money for expansion as they see good opportunities. 

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Question: How can we interpret Negative cash flow from financing activities?

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Answer: Having negative cash flow can be considered a mixed indicator with no clear inference. We need to go deeper and see what might be resulting in negative cash flow. Paying debt and giving dividends with strong cash flow from operating activities indicate that the company is earning profits and and might be trying to reduce debt liability and paying the investors. Some investors might be happy to have a stock that gives good dividends. However, negative cash flow arising from repurchase of stocks to boost EPS indicate that the company is not able to figure out new avenues of growth and are boosting EPS instead through share buybacks. There is no straight forward answer for this and we have to look at the overall picture.

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