Cash Flow Statement: Example, Format and Components (Direct Method) (2024)

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In this tutorial I'm going togo over the format and components of a simple cash flow statement and give you a detailed example (further below).

What is the Cash Flow Statement?

Have you heard of this saying?

Cash is king.

This is a common saying in the business world. And it is quite true, because cash is the lifeblood of the business.

Without cash, you can't pay bills, you can't expand the business by purchasingassets. You can't pay employees. As the business owner, you couldn't even pay yourself!

Just as it sounds, the cash flow statement is a statement (report) offlows of cash -bothinandoutof the business.

Why Do We Need the Cash Flow Statement?

But why do we need the cash flow statement if we've already got the income statement?

The answer is that one could show the most fantastic performance according to theincome statement,with huge profits, and yet have nothing remaining in the bank. Your business wouldn't survive very long in that kind of situation.

You may be wondering, "But how could that even occur?"

It could occur if all or most of your sales have been madeon credit. And it could occur if additionally you weren't monitoring thecash flowsof your business.

In real life this extreme situation would rarely occur, but this example serves to explain that the cash situation of a business is key. And the cash flow statement, which shows us what the business has been doing with its cash - provides vital information.

So yes, cash really is king - in the business world and even in accounting.

Cash Flow Statement Format (Direct Method)

Okay, so before anything else, here's the format of the cash flow statement itself (see further below for explanations):

Notes on the Format Above

• Cash can flow in two directions – either coming in to your business or going out. Cash coming in to your business is shown as positive amounts, whereas cash going out from your business are shown as negative amounts (in parentheses).

• Note that dividendsare cash payouts to people who have bought shares in a company. Dividends are similar todrawings(in a small business), in that the owner is getting a payout (drawingsis when the owner of a small business withdraws some of the cash that s/he initially invested in the business for personal use).

• Proceedssimplymeans cash received.

• It's important to note that the cash flow statement covers the flows of cash over aperiod of time(unlike thebalance sheetthat provides a snapshot of the business on a specific date).

• Like the rest of the financial statements, the cash flow statement is usually drawn up annually, but can be drawn up more often.

Components of the Cash Flow Statement

The statement is divided into four components. I'll go over each of these below.

1. Cash Flow from Operating Activities

The first component is the cash flows relating to youroperations– the core activities of your business.

This includes cash receipts (cash received) from your customers, cash paid to suppliers and employees and for general operating expenses, interest received or paid and tax paid.

2. Cash Flow from Investing Activities

The second component is thecash flow frominvesting activities.

Investing(inthe context of the cash flow statement) means the spending of cash onnon-current assets.

For example, one could be spending cash on computer equipment, on vehicles, or even on a building one purchased.

Thus investing activities mainly involvescash outflowsfor a business.

We also include cash inflows in this section relating to the sale of a non-current asset that we have already invested in. Thus, the cash received this year from selling equipment that was originally bought (invested in) three years ago, would also be included in this section.

As investing activities mainly deal with cash outflows (buying non-current assets), the total of this section is usually anegative.

Purchases of assets are put under two different categories: additions or replacements.

Additionsmeans purchases ofadditionalassets in order toexpandthe business.

Replacementsdo not involve expansion but rather refer to an asset being purchased toreplacean old or obsolete (no longer used) asset.

3. Cash Flow from Financing Activities

Cash flow from financing activitiesis the third component.

Financingis the source of the cash that we will be using to invest in non-current assets.

It is where we get cash from.

Thus financing activities mainly involvescash inflowsfor a business.

Financing can come from theowner(owners equity)or from liabilities (loans).

We also include cash outflows in this section that relate to financing that we originally obtained. Thus the repayment of a loan (in part or in full) falls under financing activities (as a cash outflow), as the loan served asfinancefor the business originally.

Similarly,drawings(or dividends for a corporation) may also be placed under this section, although it can also be placed under the operating activities section if the business so chooses.

As financing activities mainly deal withcash inflows(receiving cash from shareholders or lenders), the total of this section is usually apositivefor cash flow.

4. Net Increase / Decrease in Cash

The final section of the statement comprises thenet cash increase or decreasefor the period as well as the cash balance at the beginning and end of the period.

Cash Flow Statement Practice Example
(Direct Method)

The cash flow statement can be drawn up directly from records of one's cash and bank account.

So one would look over the bank T-account and possibly the cash receipts journal and cash payments journal (if needed).

Here is the bank T-account for the sample business we've been using throughout our tutorials, George's Catering:

Before scrolling down any further, take out a piece of paper and pen and see if you can construct the cash flow statement using only the bank T-account above. When you're finished, return here and check your answers against the solution below.

Solution:

The cash flow statement forGeorge’s Catering would look as follows:

Note that the "cash at the beginning of the period" amounted to $0, as this was the first year in which George's Catering was operating. Since most businesses are already up and running for many years, there would usually be an opening cash balance.

Remember, the cash flow statement shows flows of cash, not income and expenses.

Whereas income could be oncashoron credit, cash receipts from customers wouldonlybe cash.

Our accounting equation forGeorge’s Cateringlooked as follows at the end of the period:

The closing balance of the bank account corresponds to the answer we calculated in our cash flow statement.

Budgeted Cash Flow Statements

Just like theincome statementandbalance sheet,the cash flow statement can also be drawn up in budget form and later compared to actual figures.

These budgeted figures would be drawn up based on actual figures from past years, but taking into account any expected future changes in cash flows.

The budgeted figures for the cash inflows and outflows (and the way these figures were obtained) would be explained or justified in additional notes to this statement.

By the way, and just as a final note, do not confuse the cash flow statement with a cash budget. These are two completely different things.

Test Yourself!

Before you start, I would recommend to time yourself to make sure that you not only get the questions right but are completing them at the right speed.

Difficulty rating:
Beginner --> Intermediate

Quiz length:
7 questions

Time limit:
8 minutes

Important:The solution sheet on the following page only shows the solutions and not whether you got each of the questions right or wrong. So before you start, get yourself a piece of paper and a pen to write down your answers. Once you're done with the quizandwriting down your answers, click theCheck Your Answersbutton at the bottom and you'll be taken to our page of solutions.

Good luck!

That's all folks! Hope you enjoyed my cash flow statement example and explanations!

Head on over to the next lesson where you'll learn all about other accounting reports you may come across, such as an asset register, a debtor's analysis, and more.

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