1.Cash Flows from Operating Activities
The activities included in this section are related to the business’s core operations where expenses are incurred and generate income. The cash inflows and cash outflows activities are accounts receivable, accounts payable, inventory purchase and sale, interest and income tax payments, salary to employees, rent payments, etc.
Investors should analyze this section because it helps them see from which activities the company is getting the cash from its operations and the overhead activities on which the company is spending its cash. As it does not include the non-cash expenses, it gives a true picture of the business.
The two ways to calculate the operating cash flow in cash flow statements are a direct method and an indirect method.
This method is used on the basis of actual cash flows from the business, such as cash receipts from customers and debtors, cash payments to suppliers, cash expenses in business operations, cash interest payments paid to creditors, and taxes paid to the government. All these inflows and outflows are added and deducted to arrive at the net cash flows from operating activities in a financial year.
In this method, the cash flow from operating activities is calculated using the basis of adjusting it against the net profit or loss in a financial year. Direct cash payments and receipts are not used in this method rather change in current assets and liabilities, depreciation, and amortization are added back, and change in working capital, changes in provisions, increase or decrease in accounts receivables and payables, etc. is adjusted.
2.Cash Flows from Investing Activities
This section includes the activities related to the capital expenditure, which include the purchase of assets such as land, property, equipment and machinery, expansion activities, investments in stocks of another company, acquisition of another company, etc., which leads to the outflow of cash and the divestment in the assets, sale of subsidiaries and stocks of another company that leads to the inflow of cash.
The investor can analyze this section and know whether it’s a growing company or not because, generally, a growing company has negative net cash flow from financing activities. An established company will have positive net cash flow from investing activities because it is not spending more on the purchase of assets and related activities.
3.Cash Flows from Financing Activities
The activities related to the financing activities are included in this section, which can be receipts from stock sales, receipts of loans, borrowed funds, etc. in cash inflows.
Dividend payments, loan repayments, buyback of shares, etc. are treated as cash outflows in financing activities.
Investors can analyze this section to learn how much cash the company is getting from its equity and debt sources. If the company is financing more from debt sources, then there might be a bankruptcy situation.
