A statement of cash flows shows how cash and cash equivalents changed during a reporting period, grouping cash movements into operating, investing, and financing activities. To prepare one, gather the income statement, comparative balance sheets, transaction records, and supporting schedules; classify cash transactions; calculate the three sections; and reconcile ending cash to the balance sheet. To read one, assess operating cash flow alongside investing needs, financing activity, and the other financial statements—not as a standalone verdict on business health.
What a cash flow statement shows
The statement of cash flows complements the income statement and balance sheet. The income statement generally reports profit using accrual accounting, while the balance sheet shows financial position at a point in time. The cash flow statement explains the movement from beginning to ending cash and cash equivalents during a period.
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Cash-flow information can help readers assess liquidity, ability to meet obligations, need for external financing, earnings quality, and how management deploys capital. It is not the same as profit, a cash-flow forecast, or free cash flow. Read it with the income statement, balance sheet, notes, and management discussion.
The three sections of a cash flow statement
| Section | What it covers | Examples |
|---|---|---|
| Operating | Principal revenue-producing activities and other activities not classified as investing or financing | Cash collected from customers; payments to suppliers and employees |
| Investing | Acquisitions and disposals of long-term assets and certain investments | Equipment purchases; proceeds from selling property or investments |
| Financing | Changes in contributed equity and borrowings | Borrowing and principal repayment; issuing or repurchasing shares; dividends |
Operating activities
Operating cash flow reflects cash effects of the business’s principal revenue-producing activities. Under the indirect method, it starts with net income or profit and adjusts for non-cash items, gains or losses classified elsewhere, and changes in operating assets and liabilities. An increase in receivables or inventory generally reduces operating cash flow; an increase in payables generally increases it. These are interpretation rules, not substitutes for checking the underlying transactions.
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Investing activities
Investing cash flows generally include purchases and sales of property, plant, and equipment; certain investments; and acquisitions or disposals of businesses. Negative investing cash flow may reflect expansion, replacement of productive assets, or an acquisition. Positive investing cash flow may include asset-sale proceeds. Interpret these flows in light of operations, strategy, asset needs, and financing.
Financing activities
Financing cash flows reflect changes in borrowings and contributed equity. They commonly include proceeds from issuing shares or borrowing, principal repayments, share repurchases, and dividends. A financing inflow may support growth, but repeated inflows used to cover negative operating cash flow may indicate dependence on outside funding. An outflow may reflect debt reduction or distributions; context matters.
Direct and indirect methods
| Method | Presentation | What it helps readers see |
|---|---|---|
| Direct | Major classes of gross operating cash receipts and payments | Cash collected from customers and cash paid to suppliers, employees, or other operating providers |
| Indirect | Reconciliation from net income or profit to operating cash flow | Effects of non-cash items and accounting timing differences |
When based on the same transactions, both methods produce the same total operating cash flow; they differ in presentation. The direct method describes cash transactions directly. The indirect method is often practical when accrual accounting records and comparative balance-sheet information are available. Under U.S. GAAP, a reconciliation from net income to operating cash flow is required even when the direct method is used.
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How to prepare a cash flow statement
- Define the reporting framework and period. Identify whether the statement follows U.S. GAAP, IFRS Accounting Standards, or another framework, and specify the reporting period. Classification rules can differ for items such as interest, dividends, taxes, restricted cash, and overdrafts.
- Gather source records. Assemble the income statement, beginning and ending balance sheets, general ledger and bank records, fixed-asset and investment schedules, debt and equity schedules, dividend and repurchase details, acquisition or disposal records, and information about non-cash transactions.
- Define cash and cash equivalents. Apply the relevant framework’s definition and identify the balances included. IAS 7 describes cash as cash on hand and demand deposits, and cash equivalents as short-term, highly liquid investments readily convertible to known amounts of cash and subject to insignificant risk of changes in value.
- Classify cash transactions. Assign receipts and payments to operating, investing, or financing activities based on their substance, the business, and the applicable framework—not just the account name.
- Build operating cash flow. Use the direct method to summarize operating receipts and payments, or use the indirect method to reconcile net income or profit for non-cash items, gains and losses classified elsewhere, and changes in operating assets and liabilities.
- Add investing and financing flows. List applicable cash purchases and sales of assets, acquisitions and disposals, borrowings, principal repayments, equity transactions, dividends, and repurchases.
- Reconcile the cash movement. Add operating, investing, and financing cash flows, along with any separately presented exchange-rate effects or other required items, to determine the net change. Add that change to beginning cash and verify ending cash against the relevant balance-sheet amount.
- Disclose non-cash transactions and supporting information. Exclude transactions without current-period cash receipts or payments from cash-flow totals, but disclose them separately when required. Examples include converting debt to equity or acquiring an asset through a non-cash financing arrangement.
If the cash bridge does not reconcile, investigate omitted transactions, sign errors, foreign-exchange effects, changes in consolidation, restricted cash, overdrafts, and non-cash transactions.
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Suppose a company reports net income of $100,000. During the period, depreciation is $12,000, accounts receivable increase by $18,000, inventory decreases by $5,000, and accounts payable increase by $7,000. Its operating cash flow is:
| Adjustment | Amount |
|---|---|
| Net income | $100,000 |
| Add depreciation | $12,000 |
| Increase in accounts receivable | −$18,000 |
| Decrease in inventory | $5,000 |
| Increase in accounts payable | $7,000 |
| Net cash from operating activities | $106,000 |
If the company also buys equipment for $60,000, investing cash flow is −$60,000. If it borrows $20,000 and pays dividends of $10,000, financing cash flow is $10,000. Before any separately presented exchange-rate effects or other required adjustments, the net change in cash is $56,000. With beginning cash of $40,000, ending cash is $96,000. This educational example illustrates the calculation; it does not represent actual company results.
How to read a cash flow statement
Start with operating cash flow
Look for trends across periods rather than relying on a single strong or weak result. Compare operating cash flow with net income, revenue growth, margins, and movements in receivables, inventory, and payables. A persistent gap between positive net income and weak operating cash flow may reflect working-capital timing, growth in receivables or inventory, revenue recognition, or other factors. It is a reason to investigate, not proof of misconduct. A temporary negative result may also reflect timing or planned inventory investment.
Analyze investment and financing together
Review asset purchases, acquisitions, investments, and sale proceeds in light of operating cash generation and the company’s stated plans. Where disclosures permit, distinguish spending to maintain capacity from expansion spending. Then check whether operations, lenders, or owners supplied cash, and consider borrowing alongside repayments, maturities, interest obligations, dividends, and repurchases. Positive total cash flow does not by itself prove that operations are strong; borrowing or asset sales may have supplied the cash.
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Check the cash bridge and use all three statements
Verify that beginning cash plus the reported net change reconciles to ending cash under the applicable framework. If it does not, examine the cash-equivalent definition, restricted cash, exchange-rate effects, acquisitions, discontinued operations, and non-cash transactions. Compare multiple periods and connect cash movements to the income statement, balance sheet, notes, and management disclosures.
Independent reader supportYour contribution helps us test, update, and keep practical guides available for everyone.Important distinctions and reporting differences
Cash flow is not profit, free cash flow, or a forecast
Net income includes accruals and non-cash items, while the cash flow statement focuses on cash and cash equivalents. A profitable business can face a cash shortfall; a business can also show positive cash flow because it borrowed money or sold an asset. Free cash flow is an analytical measure, not a standardized accounting subtotal. A common convention is operating cash flow minus capital expenditures, but definitions vary; check how the issuer or analyst defines it. A historical statement reports past activity, not a forecast or guarantee of future liquidity.
Classification depends on framework and facts
U.S. GAAP and IFRS both organize cash flows into operating, investing, and financing activities and permit direct or indirect presentation of operating cash flow, but detailed classification and disclosure requirements can differ. IAS 7 requires reconciliation of cash and cash equivalents and separate disclosure of non-cash investing and financing transactions. Interest, dividends, taxes, overdrafts, restricted cash, and complex transactions may require framework-specific analysis.
The IFRS Foundation reports that the IASB amended IAS 7 in 2024 in connection with IFRS 18, including changes relating to the operating-profit subtotal used as the starting point for the indirect method and new requirements concerning interest and dividend cash flows. Check the applicable reporting date and edition before relying on IFRS-specific guidance.
FAQ
Do direct and indirect methods produce different operating cash flow?
No. Based on the same transactions, they produce the same total operating cash flow. The direct method shows categories of receipts and payments; the indirect method reconciles profit to cash.
Does negative investing cash flow mean a company is in trouble?
Not necessarily. It can reflect purchases of productive assets, expansion, or an acquisition. Consider operating cash generation, the company’s strategy, and how the investment is funded.
Does a gap between net income and operating cash flow mean earnings are manipulated?
No. Timing differences, receivables, inventory, payables, and non-cash expenses can create a gap. A persistent or unusual gap warrants investigation but does not by itself establish misconduct.
How can I check whether the statement balances?
Add operating, investing, and financing cash flows and any separately presented required effects to find the net change. Add it to beginning cash and compare the result with ending cash and the relevant balance-sheet amount, accounting for framework-specific reconciliation requirements.
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Is free cash flow shown as an official cash flow statement subtotal?
Not necessarily. Free cash flow is a non-GAAP or non-IFRS analytical measure with varying definitions. Check the issuer’s or analyst’s definition and what items it includes.
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