Unit 3 · Topic 3.8 · about 25 minutes
The Cash Flow Statement
Track a business's cash through a period and explain why a profitable business can still be unable to pay its bills.
Predict first
A business reports a net profit of $50,000 for the year. Could it still run out of cash before the year is over?
Cash in, cash out
A cash flow statement shows how cash inflows and outflows changed a business's cash balance over a financial reporting period, such as a month or a quarter. Businesses watch their cash balance closely to make sure there is enough to pay recurring expenses like payroll and rent, to repay lenders, and to handle expenses nobody planned for, like a freezer that breaks down in July.
Cash inflows raise the cash balance. They typically include:
- payments from customers
- interest or dividends earned on the business's investment assets
- money received from selling the business's assets, such as an old truck
- infusions of financial capital, such as money from a new loan (3.5 Financial Capital)
Cash outflows lower the cash balance. They typically include:
- payments to employees and suppliers
- interest paid on existing loans
- taxes paid to the government
- money spent to buy assets
- money spent repaying debt
- dividends paid to shareholders
Add up the inflows and subtract the outflows, and you have the period's cash flow, which can be positive or negative. The cash balance at the start of the period plus the period's cash flow gives the balance at the end.
Sort it
Tap each event, then tap what it does to the business's cash balance right now.
Cash inflow
Cash outflow
No cash moves yet
| Line | Amount |
|---|---|
| Cash balance, July 1 | $48,000 |
| Cash inflows | |
| Payments from customers | $96,000 |
| Sale of an old embroidery machine | $4,000 |
| Total cash inflows | $100,000 |
| Cash outflows | |
| Payments to suppliers | $62,000 |
| Payments to employees | $45,000 |
| Rent | $9,000 |
| Interest paid on the bank loan | $1,200 |
| Repayment of part of the bank loan | $6,000 |
| Purchase of a new sewing machine | $14,000 |
| Taxes paid | $3,000 |
| Total cash outflows | $140,200 |
| Cash flow for the quarter | −$40,200 |
| Cash balance, September 30 | $7,800 |
Worked exampleA profitable quarter with a cash problem
Copperline Uniforms makes team uniforms for high school athletic departments, and schools pay 60 days after delivery. Use the cash flow statement above and these facts about the same quarter.
- Net profit on its income statement: $18,400
- Amount schools owed it on September 30 for uniforms already delivered: $99,000
- Next monthly payroll, due October 1: $15,000
Can Copperline make payroll, and what can it do?
Cash flow for the quarter. Inflows of 100,000 minus outflows of 140,200 = negative $40,200.
Ending cash. It started July with $48,000, so it ends September with 48,000 minus 40,200 = $7,800. That is about half of the payroll due October 1.
Why the profit did not show up as cash. Copperline delivered uniforms all quarter for fall sports. Those sales count toward its profit, but on September 30 schools still owed $99,000 for them, and that money has not arrived as cash. Copperline also paid $14,000 for a new sewing machine and $6,000 toward its loan.
What it can do. Collect receivables faster, for example by asking schools to pay within 30 days. Get better terms from suppliers and lenders, such as 60 days to pay for fabric. Or raise more funds, such as a short-term loan to cover payroll until the schools pay.
Not from the cash it has. Copperline was profitable this quarter, yet it holds $7,800 against a payroll nearly twice that size. Without faster collections, better terms or new funds, a profitable business could miss payroll.
Who reads it, and what negative cash flow means
The cash flow statement shows whether a business can meet its financial obligations: paying its employees, its suppliers, its creditors and its shareholders. A bank deciding on a loan and a supplier deciding whether to ship on credit are both asking whether the cash will be there.
A negative cash flow for one period is not automatically a crisis. A business may have spent cash on purpose, for instance on equipment it will use for years. But negative cash flow can also signal that a business cannot pay its current expenses, and that can lead to a shutdown or bankruptcy even when its net income is positive. A business in that position can raise more funds (3.5 Financial Capital), collect its accounts receivable faster, or get better terms from its suppliers and lenders, such as more time to pay.
Check your understanding
A bike shop starts March with $12,500 in cash. During March:
- Customers pay it $41,000.
- It takes out a new bank loan of $10,000.
- It pays suppliers $27,500.
- It pays employees $14,000.
- It pays $3,200 in rent.
What is its cash balance at the end of March, in dollars?
A business takes out a new $50,000 bank loan in June. How does the loan show up on its June cash flow statement?
A furniture maker's income statement shows a net profit of $60,000 for the year. Yet its cash flow for the year was negative, and it is struggling to pay its suppliers. Which explanation fits best?
A profitable wholesaler expects negative cash flow next quarter. Which action would most directly improve its cash flow?
A food supplier is deciding whether to let a restaurant pay for deliveries 30 days after they arrive. What would the restaurant's cash flow statement best help the supplier judge?
Course alignment, for teachers
AP Business with Personal Finance topic 3.8, Unit 3: Personal Saving and Borrowing / Business Finance and Accounting.