The Missing Financial Statement
There are 3 financial statements that measure the financial status of your company. The first two you are likely well aware of. If the financials statements were celebrities, they would be as follows.
The Balance Sheet, is the foundation of your business. It measures the assets, liabilities and equity in the company. But the Balance Sheet gets no respect. While it is easily generated, most business leaders pay little attention to it. We call it the Rodney Dangerfield of financials statements because it “gets no respect”.
The Income Statement is the favorite and most appreciated of the financial statements. Managers eagerly await the top line revenue and bottom line net profit numbers it holds. If it were a celebrity it would be Hollywood’s sweetheart. The income statement is easily Beyonce.
However there is a third, missing financial statement that is rarely, if ever generated by most businesses. And it’s not because they don’t want it or need it, but because it is simply not provided by most accounting software. This is the Cash Flow Statement. Cash Flow, as a celebrity is the mysterious, reclusive chess icon, Bobby Fischer.
But cash is king, as they say. Cash flow is the lifeblood of your company and yet many business owners operate without this fundamental statement.
Let’s take a quick look at what it is.
Operating cash flow
Operating cash flow is the cash flow generated from the day-to-day operations of your business. It consists of net profit (or loss) and selected assets and liabilities changes from one period to the next.
The formula is:
Net profit (loss) +
Change in current assets, excluding cash +
Change in current liabilities, excluding bank and shareholder debt +
Change in net fixed assets +
Change in non-current assets =
Operating cash flow
Financing cash flow
Financing cash flow consists of changes in bank debt, shareholder debt, and other long-term debt from one period to the next as follows:
Change in bank or capital lease debt +
Change in shareholder debt +
Change in other non-current debt +
Equity adjustment =
Financing cash flow
Net cash flow
Net cash flow is the sum of operating and financing cash flow:
Operating cash flow +
Financing cash flow =
Net cash flow
A couple of notes on cash flow:
Positive Operating Cash Flow is not always good. It could mean that the company is declining in revenue and accounts receivable are shrinking, creating the positive cash flow.
Negative Operating Cash Flow is not always bad. It could mean that revenue is growing nicely and creating negative cash flow in the short term due to increased accounts receivable.
Consistent negative Operating Cash Flow is always bad. In the long term, Operating Cash Flow must be enough to provide for at least the down payment on fixed assets and make the payments on debt (Financing Cash Flow).
Negative Financing Cash Flow means the company is paying off debt or there has been an equity adjustment due to shareholder distributions.
If Cash Flow Before Financing is negative, there are only two parties that can make up the difference, Owners or Lenders. If the owner doesn't have the money or doesn't want to invest it, it must come from banks or other lenders.
The real value of tracking Cash Flow on a regular basis is the resulting ability to forecast it in future years. If this is done, then you can go to the bank in advance of needing the money and make sure that it will be available and you will never be surprised at running out of cash.
If Net Cash Flow is consistently negative, management needs to make necessary changes in the financial operation of the business to correct this. Otherwise, there is no viable business.
And if you’re still wondering what the drivers of cash flow are, let’s review this handy graphic:
So now, you are probably wondering where is YOUR cash flow statement, yes?
Here are some ways to get it:
use the formulas here in this article (also included in our book)
use Business Mastery to calculate cash flow for you
ask your CPA to generate one for you
see if your accounting software can generate one
But, as alluded to in #6 above, the REAL value of calculating cash flow is not in examining past cash flow, but in being able to forecast it. NO ONE likes a cash flow surprise (aka, running out of cash). When you can analyze the past, you begin to learn how to forecast the future.
Chapters 5-11 of 60 Minute CFO talk more about this as well and Business Mastery will do the forecasting for you.
We also teach cash flow forecasting in our online course and live cohorts.
So take action now, find the missing financial statement, and get a handle on your cash flow! Your business will only be better for it.