Normal situation where the cash inflows during a period are higher than the cash outflows during

the
same period. Positive cash flow does not necessarily means profit, and is usually due to a careful
management of cash inflows and expenditure. Persistent and large positive cash flows may indicate the
firm is not keeping enough stocks of raw materials or finished products, and might be losing sales due to
shortages

A cash flow statement, along with the balance sheet and income statement, are the three most
common financial statements used to gauge a company’s performance and overall health. The same
accounting data is used in preparing all three statements, but each takes a company’s pulse in a
different area.

The cash flow statement discloses how a company raised money and how it spent those funds during a
given period. It is also an analytical tool, measuring an enterprise’s ability to cover its expenses in the
near term. Generally speaking, if a company is consistently bringing in more cash than it spends, that
company is considered to be of good value.

A cash flow statement is divided into three parts: operations, investing and financing. The following is an
analysis of a real-world cash flow statement belonging to Target Corp. Note that all figures represent
millions of dollars.

Cash from operations: This is cash that was generated over the year from the company’s core business
transactions. Note how the statement starts with net earnings and works backward, adding in
depreciation and subtracting out inventory and accounts receivable. In simple terms, this is earnings
before interest and taxes (EBIT) plus depreciation minus taxes.

Interpretation: This may serve as a better indicator than earnings, since noncash earnings can’t be
used to pay off bills.

Cash from investing: Some businesses will invest outside their core operations or acquire new
companies to expand their reach.

Interpretation: This portion of the cash flow statement accounts for cash used to make new
investments, as well as proceeds gained from previous investments. In Target’s case, this number in
2006 was -4,693, which shows the company spent significant cash investing in projects it hopes will
lead to future growth.

Cash from financing: This last section refers to the movement of cash from financing activities. Two
common financing activities are taking on a loan or issuing stock to new investors. Dividends to current
investors also fit in here. Again, Target reports a negative number for 2006, -1,004. But this should not
be misconstrued: The company paid off 1,155 of its previous debt, paid out 380 in dividends and
repurchased 901 of company stock.

Interpretation: Investors will like these last two items, since they reap the dividends, and it signals
that Target is confident in its stock performance and wants to keep it for the company’s gain. A simple
formula for this section: cash from issuing stock minus dividends paid, minus cash used to acquire
stock.

The final step in analyzing cash flow is to add the cash balances from the reporting year (2006) and the
previous year (2005); in Target’s case that’s -835 plus 1,648, which equals 813. Even though Target ran a
negative cash balance in both years, it still has an overall positive cash balance due to its high cash
surplus in 2004.

What is a Cash Flow Statement?

In financial accounting, a cash flow statement (also known as statement of cash flows or funds flow
statement) is a financial statement that shows how changes in balance sheet accounts and income
affect cash and cash equivalents. The cash flow statement, as the name suggests, provides a picture of
how much cash is flowing in and out of the business during the fiscal year.

The cash flow is widely believed to be the most important of the three financial statements because it is
useful in determining whether a company will be able to pay its bills and make the necessary
investments. A company may look really great based on the balance sheet and income statement, but
if it doesn't have enough cash to pay its suppliers, creditors, and employees, it will go out of business.
A positive cash flow means that more cash is coming into the company than going out, and a negative
cash flow means the opposite.

Relationship to Other Financial Statements

When preparing the cash flow statement, one must analyze the balance sheet and income statement for
the coinciding period. If the accrual basis of accounting is being utilized, accounts must be examined for
their cash components. Analysts must focus on changes in account balances on the balance sheet.
General rules for this process are as follows.

Transactions that result in an increase in assets will always result in a decrease in cash flow.
Transactions that result in a decrease in assets will always result in an increase in cash flow.

Transactions that result in an increase in liabilities will always result in an increase in cash flow.

Transactions that result in a decrease in liabilities will always result in a decrease in cash flow
Interpretation

An analyst looking at the cash flow statement will first care about whether the company has a net
positive cash flow. Having a positive cash flow is important because it means that the company has at
least some liquidity and may be solvent.

Regardless of whether the net cash flow is positive or negative, an analyst will want to know where
the cash is coming from or going to . The three types of cash flows (operating, investing, and
financing) will all be broken down into their various components and then summed. The company
may have a positive cash flow from operations, but a negative cash flow from investing and financing.
This sheds important insight into how the company is making or losing money.

Cash Flow Comparison

Company B has a higher yearly cash flow. However, Company A is actually earning more cash by its core
activities and has already spent 45 million dollars in long-term investments, of which revenues will show
up after three years.

The analyst will continue breaking down the cash flow statement in this manner, diving deeper and
deeper into the specific factors that affect the cash flow. For example, cash flows from operating
activities provide feedback on a company's ability to generate income from internal sources. Thus,
these cash flows are essential to helping analysts assess the company's ability to meet ongoing funding
requirements, contribute to long-term projects and pay a dividend.

Analysis of cash flow from investing activities focuses on ratios when assessing a company's ability to
meet future expansion requirements. One such ratio is that for capital acquisitions:

Capital Acquisitions Ratio = cash flow from operating activities / cash paid for property, plant and
equipment

This sphere of cash flows also can be used to assess how much cash is available after meeting direct
shareholder obligations and capital expenditures necessary to maintain existing capacity.