How do you value a company? Any investor wanting to invest his money into a company should find out the real value of a company. But how do you do it? The company's cash flow statement can give you a fair idea of the status of the company and if it is worth your investment or not.
Here we will read about the basics of a cash flow statement, its different sections and what cash flow statement can tell you about a company.
What is cash flow statement?
For any investor a cash flow statement of a company might sound very similar to its income statement. So how do you tell the difference? Here's how.
An income statement tells you the revenues a company made and the expenses it made during a particular period of time. A cash flow statement will give you an idea of how much cash came into the company and how much went out of the company.
The major difference between the two is that unlike the income statement which often consists of non-cash revenues or expenses, the statement of cash flows does not include the non-cash revenues or expenses.
This is better understood and presented by adopting an intricate method called accrual accounting. Under this system, every company is required to document the revenues and expenses it makes when transactions take place, and not when cash is exchanged.
The statement of cash flows is an important part of the financial statements of the company, to the investor in particular. The statement will explain to the investor how much actual money was generated by the company.
For an investor it is important to find out the capability of a company to generate cash. Income statement of some companies will show profits but there might be difficulties for the company in raising cash due to insufficient cash flows. And an investor can safeguard his investments by taking a good look at the cash flow statement to find out exactly the cash flow in the company.
Every company can generate cash through different avenues and the statement of cash flows would reflect this in its three sections:
- Cash flows from operating activities.
- Cash flows from investing activities.
- Cash flows from financing activities.
Cash flows from operating activities
This part of the cash flow statement is very important as it shows how much cash the company has generated by way of its core business or its operating activities. The cash flow from side-line activities such as investing or borrowing is not included here in this part of the statement. For an investor reading this part carefully is important as more the cash flow seen in this part of the statement more the benefits for the shareholders.
Cash flows from investing activities
This part of the cash flow statement has the amount of money spent by the company on investments from two sources: one, the capital expenditures like buying new equipment and everything required to keep the business running, and two, the monetary investments that is amount invested to buy or sell money market funds.
Cash flow from financing activities
The final part of the cash flow statement is the cash flows from financing activities that is more connected with the transactions the company has with its owners or debtors. This includes the cash proceeds from new debt raised, or the shareholders' dividends that are paid to the investors and shareholders.
The cash flow statement is one of the fundamental financial statements. There are many more things the financial statements can reveal to a serious investor.