When most business owners and professionals look at a complete set of financial statements, they seem to focus on the income statement and look at net income or the bottom line to determine whether they had a “good year” or not. Or maybe they look at the balance sheet to see how much cash they have or their debt balance to determine how much more is owed to the bank.
Although I can’t argue with the above approaches, I would suggest that a financial statement reader also take a long look at the statement of cash flows. The statement of cash flows is divided into three sections: Operating Activities, Investing Activities and Financing Activities.
The first section, and arguably the most important section, should provide the reader of the financial statements a picture of the cash flow that was generated by the business via its recurring operations. And remember that cash is king (try making your monthly loan payment with a shipment of inventory). You cannot run a business without free or available cash flow… so you better understand how to generate it.
The operating activities section of the cash flow statement starts with net income and considers many operational factors of the business. Examples of operational factors may include: improved collections on account receivable, extending payment terms with suppliers and better management of inventory levels. All of these will increase cash from operating activities. In addition, certain non-cash items in the income statements are added back to net income which may include; depreciation, amortization, non-cash compensation, etc. The resulting number is the cash generated by the business from its core operations. This is an important number. It is the cash that is available to fund future growth of the company (investing activity) or to provide a return to its owners (financing activity).
The next two sections of the statement of cash flows are investing activities and financing activities. Investing activities are primarily focused on the growth of the business and includes purchases of equipment (capital expenditures or “CapEx”) or purchases of other businesses/acquisitions. While financing activities present the funds borrowed or repaid to your bank and the returns/distributions that your business provided to its owners. The cash generated by the operating activities can be used to fund investing activities and financing activities.
In conclusion, no single financial report (balance sheet, income statement or cash flow) provides a complete picture of a business but I suggest that, as a savvy and educated financial statement reader, you don’t overlook the statement of cash flows and the meaningful information that it provides. As you review your financial statements, it is important to develop the right metrics and key performance indicators for your industry and your business. Spending some time up front to determine what matters most to you will allow you to have more meaningful discussions with your management team when the financial results are reviewed. 
