‘Cash is king. Get every drop of cash you can get and hold onto it.’
Jack Welch, author and chairman/CEO of General Electric between 1981 and 2001
In a nutshell
The CFS (cash flow statement) is one of the primary financial statements within a set of accounts.
The CFS shows the inflows and outflows of cash during a reporting period. It explains how the cash balance shown in the balance sheet has increased or decreased from the previous reporting period.
The CFS contains three major headings, under which inflows and outflows of cash are categorised:
- ■Operating activities
- ■Investing activities
- ■Financing activities.
For a business, ‘cash is king’ and analysing the CFS is a highly informative way to assess a company’s ability to generate and utilise its cash.
Need to know 
Why is this important? 
The CFS is one of the most useful financial statements to analyse a company’s performance and its cash management. It provides a number of insights not available from the more familiar P&L (see Chapter 3 Profit and loss (P&L)) and balance sheet (see Chapter 4 Balance sheet).
Cash is a matter of fact. The P&L and balance sheet incorporate accounting adjustments which are subject to judgement such as accruals (see Chapter 13 Prepayments and accruals), provisions (see Chapter 14 Provisions and contingencies) and depreciation (see Chapter 9 Tangible fixed assets and depreciation). There is no judgement in a CFS.
The CFS reveals how a company has:
- ■managed its short-term liquidity, such as managing stock (see Chapter 11 Stock) and balancing debtors and creditors (see Chapter 24 Working capital and liquidity management)
- ■controlled its long-term solvency and adapted its financing to prepare for its future (see Chapter 26 Long-term solvency performance measures)
- ■invested in assets for its future.
For an established business, the CFS can be used to give an indication of the amount, timing and certainty of future cash flows. It also enables comparability of a company’s year-to-year cash position, as cash flows are not affected by accounting policies.
There are three parts of a cash flow statement. These are illustrated in the diagram below and explained in the following paragraphs.
Operating activities
Operating activities are the principal revenue-generating activities of the business.
In the CFS, they also include interest and tax payments.
This is the key section of the CFS as it shows whether the business is generating a positive cash flow from its operations. A company that is not generating cash has to borrow or deplete short-term cash reserves. Ultimately, cash from operations must support the rest of the business in the long run.
The main operating activities are:
- ■cash received from customers
- ■cash paid to suppliers
- ■cash paid to and on behalf of employees
- ■interest and taxes paid.
The difference between the cash from operating activities and the operating profit are mainly due to:
- ■accounting adjustments
- ■movements in working capital
- ■interest and taxes paid.
This difference is reconciled in the supporting notes to the CFS.
See the In practice section for further discussion and the Nice to know section for more detail on the reconciliation.
Investing activities
Investing activities are typically the acquisition and disposal of long-term assets and other investments.
They also include returns from investments such as bank deposits and dividends from other companies in which the business holds shares.
Investing activities are important to the long-term success of a business and demonstrate the extent of new investment in assets. These investments will hopefully support future cash flows and generate profit.
Financing activities
Financing activities are changes (increases or decreases) to funding from either equity finance (see Chapter 29 Equity finance) or debt finance (see Chapter 30 Debt finance).
They include dividends paid to shareholders. Although, interest paid to debtholders, such as banks, is shown under operating activities.
Financing activities indicate how well a company is managing its financing by balancing its gearing (the amount of debt versus equity – see Chapter 26 Long-term solvency performance measures).
They also provide an indication of future interest and dividend payments.
In practice – cash versus profit 
Cash is not the same as profit (see Chapter 1 Business accounting) and in practice this is clearly demonstrated in the CFS.
The year-on-year change in a company’s operating profits may not correlate to its change in cash generated from operating activities.
For example, Royal Dutch Shell reported a $21.7m loss during 2020 after the coronavirus pandemic caused demand to slump. However, the company still generated £34.1m of operating cash flows as the loss was created largely by accounting adjustments (a write-down in the future value of the company's oil fields and prospects).
In the long run, the cash flow from operating activities and operating results should move in the same direction. However, it’s the short-term differences which may reveal insights into performance which can’t be identified from the other financial statements.
Nice to know 
Calculating cash flows from operating activities
There are two permitted methods under IAS 7 (statement of cash flows) to calculate cash flows from operating activities:
- ■the direct method and
- ■the indirect method.
Whichever method is used; it is shown either following or as a supporting note to the CFS.
Direct method
This method provides the most clarity over where cash flows have been derived and spent.
| £ | |
|---|---|
| Cash received from customers | X |
| Cash paid to suppliers | (X) |
| Cash paid to and on behalf of employees | (X) |
| Interest and taxes paid | (X) |
| Cash flows from operating activities | X |
Indirect method
This method is more popular in practice as it is simpler to calculate the figures required. It shows the impact of accounting adjustments and movements in working capital.
| £ | |
|---|---|
| Operating profits | X |
| Adjust for: | |
| Depreciation/amortisation | X |
| (Profit)/loss on the sale of assets | (X) |
| (Increase)/decrease in stock | (X) |
| (Increase)/decrease in debtors | (X) |
| Increase/(decrease) in creditors | (X) |
| Interest and taxes paid | (X) |
| Net cash flows from operating activities | X |
Optional detail 
Free cash flow (FCF)
FCF has grown in prevalence as an alternative performance measure. In essence it is calculated by deducting capital expenditure from operating cash flow.
FCF is effectively the cash remaining after internal obligations. It shows the cash available to fund potential strategic investments, repay debt or distribute returns to shareholders. It is both a measure of security and opportunity.
FCF is a popular measure as, being cash based, it is less subject to accounting adjustments. However, as it is not defined in accounting standards (see Chapter 19 Accounting and financial reporting standards) it is calculated in different ways by different companies and analysts, making it challenging to compare across companies.
As FCF includes potentially lumpy capital expenditure it should be viewed over a number of years.
Cash and cash equivalents
The CFS analyses the change in ‘cash and cash equivalents’ from one reporting period to another.
- ■‘Cash’ means physical cash held in the company (e.g. petty cash) plus cash held in instant access bank accounts.
- ■‘Cash equivalents’ are short-term (3 months or less to maturity), highly liquid investments which are readily convertible to cash and do not significantly fluctuate in value (e.g. commercial paper and marketable securities). These are held to meet short-term cash commitments and not for investment purposes.
The CFS does not differentiate between ‘cash’ and different types of ‘cash equivalents’.
Reflect and embed your understanding 
- 1What can you infer if a company’s operating cashflow does not correlate with its operating profit?
- 2Should investing activities always be financed from both operating and financing activities?
- 3Would you expect regular financing and investing cashflows in a business?
- 4Should a company always aim to generate a positive cashflow?
- 5There are exemptions available to certain companies from filing a CFS. Does this mean that it is less important and/or useful than a P&L and balance sheet?
- 6Consider the key metrics reported for an example organisation. Is FCF reported as a key metric? If not, do you consider that it would provide a helpful additional measure to assess the performance of the organisation?
- 7Should FCF be given equal prominence to other performance measures?
For the authors’ reflections on these questions please go to financebook.co.uk
Where to spot in company accounts 
The CFS follows the other primary statements (the P&L and balance sheet) in a company’s annual report.
Small companies (see Chapter 21 Information in the public domain) that are not subsidiaries are exempt from preparing a CFS.
Extract from Greggs plc 2020 annual report and accounts
| STATEMENTS OF CASHFLOWS FOR THE 53 WEEKS ENDED 2 JANUARY 2021 (2019: 52 WEEKS ENDED 28 DECEMBER 2019) | |||||
|---|---|---|---|---|---|
| Note | Group | Parent Company | |||
| 2020 £m | 2019 £m | 2020 £m | 2019 £m | ||
| Operating activities | |||||
| Cash generated from operations (see page 119) | 61.6 | 246.0 | 61.6 | 246.0 | |
| Income tax paid | (10.7) | (20.3) | (10.7) | (20.3) | |
| Interest paid on lease liabilities | (6.5) | (6.6) | (6.5) | (6.6) | |
| Interest paid on borrowings | (0.8) | – | (0.8) | – | |
| Net cash inflow from operating activities | 43.6 | 219.1 | 43.6 | 219.1 | |
| Investing activities | |||||
| Acquisition of property, plant and equipment | (58.8) | (85.4) | (58.8) | (85.4) | |
| Acquisition of intangible assets | (2.8) | (3.7) | (2.8) | (3.7) | |
| Proceeds from sale of property, plant and equipment | 1.8 | 1.4 | 1.8 | 1.4 | |
| Interest received | 6 | 0.6 | 0.3 | 0.6 | 0.3 |
| Net cash outflow from investing activities | (59.2) | (87.4) | (59.2) | (87.4) | |
| Financing activities | |||||
| Proceeds from issue of share capital | 2.2 | – | 2.2 | – | |
| Sale of own shares | 1.5 | 4.9 | 1.5 | 4.9 | |
| Purchase of own shares | (0.5) | (11.8) | (0.5) | (11.8) | |
| Proceeds from loans and borrowings | 100.0 | – | 100.0 | – | |
| Dividends paid | – | (72.1) | – | (72.1) | |
| Repayment of loans and borrowings | (100.0) | – | (100.0) | – | |
| Repayment of principal on lease liabilities | (42.1) | (49.6) | (42.1) | (49.6) | |
| Net cash outflow from financing activities | (38.9) | (128.6) | (38.9) | (128.6) | |
| Net (decrease)/increase in cash and cash equivalents | (54.5) | 3.1 | (54.5) | 3.1 | |
| Cash and cash equivalents at the start of the year | 17 | 91.3 | 88.2 | 91.3 | 88.2 |
| Cash and cash equivalents at the end of the year | 17 | 36.8 | 91.3 | 36.8 | 91.3 |
The following supporting statement reconciles the cash from operating activities and immediately follows the statement of cashflows.
| Cash flow statement – cash generated from operations | |||||
|---|---|---|---|---|---|
| 2020 £m | 2019 £m | 2020 £m | 2019 £m | ||
| (Loss)/profit for the financial year | (13.0) | 87.0 | (12.9) | 87.0 | |
| Amortisation | 10 | 4.0 | 3.8 | 4.0 | 3.8 |
| Depreciation – property, plant and equipment | 12 | 56.9 | 56.1 | 56.9 | 56.1 |
| Depreciation – right-of-use assets | 11 | 51.9 | 50.8 | 51.9 | 50.8 |
| Impairment – property, plant and equipment | 12 | 5.2 | 0.3 | 5.2 | 0.3 |
| Impairment – right-of-use assets | 8.8 | 0.5 | 8.8 | 0.5 | |
| Loss on sale of property, plant and equipment | 0.5 | 1.2 | 0.5 | 1.2 | |
| Release of government grants | (0.5) | (0.5) | (0.5) | (0.5) | |
| Share-based payment expenses | 21 | 0.9 | 4.4 | 0.9 | 4.4 |
| Finance expense | 6 | 6.7 | 6.5 | 6.7 | 6.5 |
| Income tax expense | 8 | (0.7) | 21.3 | (0.8) | 21.3 |
| Decrease / (increase) in inventories | 1.4 | (3.1) | 1.4 | (3.1) | |
| (Increase) / decrease in receivables | (12.3) | 4.5 | (12.3) | 4.5 | |
| (Decrease) / increase in payables | (48.2) | 19.9 | (48.2) | 19.9 | |
| Decrease in provisions | – | (1.7) | – | (1.7) | |
| Decrease in pension liability | 21 | – | (5.0) | – | (5.0) |
| Cash from operating activities | 61.6 | 246.0 | 61.6 | 246.0 | |
(Appendix p. 449)
Consolidate and apply
To see how the concepts covered in this chapter have been applied within Greggs plc, review Chapter 36, p. 382.
Watch out for in practice 
- →Is the company generating cash from its operations?
- →The correlation between cash from operating activities and operating profit.
- →The major differences between cash from operating activities and operating profit.
- →The trend in Free Cash Flow over a number of years.
- →Cash spent on investing activities over time.
- →Cash generated from financing activities over time.
- →The restructuring and repayment of debt as well as other financial obligations over time.