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Tracking Your Cash Flow

Producing and using a statement of cash flow for your business.

In small business, we often talk about factors like sales, net profits, debt structure, capital expenditures, and other important indicators in our businesses. When all is said and done, however, we live or die with our cash flow. To be sure, all the other factors do contribute to either positive or negative cash flow"?but in order to survive, we must analyze each of these critical areas within the context of how it affects cash flow. That's why a statement of cash flows can be so useful.

The first step in using this tool is to actually produce one. Whether you are generating your financial statements in-house, or you're relying on an outside accounting firm to produce your statements, make sure you get a monthly statement of cash flows, preferably at the same time you receive your monthly balance sheet and P&L statement. It may cause some extra work for your accounting personnel, or cost you a little more each month, but you'll find that it will be well worth it.

Three sections
A statement of cash flows comprises three separate sections: cash flows from operating activities; cash flows from investing activities; and cash flows from financing activities. Let's take a look at each section; I've provided a sample statement at right.

  • Cash flows from operating activities: This section begins with the net income or loss. Because net income is not a direct reflection of cash flow, some adjustments need to be made to net income"?primarily adding back in all non-cash expenses such as depreciation and amortization expense. This, then, gives an accurate accounting of cash generated from net income.

    Next, under this same section is a detail of changes in current assets and current liabilities from the balance sheet. Increases in current assets decrease your cash, while decreases in current assets increase your cash; the opposite is true for current liabilities.

    A few examples: If your business experiences an increase in the accounts-receivable balance during the month, you have converted sales into additional accounts receivable, which consumes cash and will reflect a decrease in cash on the statement. If your company's inventory balance decreases during the month, this will be reflected as an increase in your available cash"?you have utilized inventory that was paid for in a prior period, thus increasing your cash during the month.

    On the opposite side of the ledger, current liabilities work the other way. For instance, if your accrued payroll balance has gone up from one month to the next, you have experienced an increase in available cash"?instead of paying out the cash, it has been accrued and will be paid in the subsequent period (at least it better be). These changes in current assets and liabilities are netted against the net income (with adjustments discussed), giving you a total of net cash provided by/(used by) operating activities.

  • Cash flows from investing activities: This section deals primarily with the acquisitions and dispositions of capital assets. It's important to note that we are only accounting for the actual cash used in capital investments or cash received from the sale of equipment or other long-term assets. If, however, the equipment is financed, it will be documented in the third section.

    This section provides useful analysis of the means by which you are paying for your capital additions. Seeing how your cash is spent on assets during the month can assist you in making future decisions on what to buy and how to buy it. This second section would also include any interest earned from long-term investments.

  • Cash flows from financing activities: This portion primarily accounts for cash paid out on long-term debts. Because the interest expense is already accounted for in your profit-andloss statement, this portion of the statement only documents the principle payments on your long-term debt or lease obligations. Cash received from borrowing also would be indicated in this section. If you are collecting on a long-term note receivable, the cash proceeds (again excluding interest revenue) would be documented here. Plus, this can be a valuable tool when determining how much cash from your business is being used to service your debts.
  • Where to find the cash
    At the bottom of the statement of cash flows is a total of these three sections, producing either a net increase or decrease in cash during the period. This number is added to, or deducted from, your cash balance at the beginning of the period, resulting in your ending cash balance, which ties out to your balance sheet. Although it's just a brief overview of this financial tool, I think you can clearly see the value of regularly reviewing the cashflow statement. The next time you find yourself asking that never-ending question"?"Where did all our cash go?"?you'll know where to look for the answer.

    Marty McGhie (marty@ferraricolor.com) is VP finance/ operations of Ferrari Color, a digital-imaging center with Salt Lake City, San Francisco, and Sacramento locations.

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