How to read a cash flow statement for a startup

How to read a cash flow statement

When you plan a start-up company, you will need to create pro forma financial statements, including the income statement, cash flow statement and balance sheet. A pro forma cash flow statement shows all cash that you expect will come into the company and all cash that you expect will go out of the company during a period of time based on your stated assumptions. Let’s say, for example, that we want to look at your company’s first year’s cash flow statement. Then, the period of time is the “first year.” The figure below shows a cash flow statement for the first five years of a company. All cash flow statements are organized into three horizontal sections, each corresponding to a different set of events that cause cash to flow into or out of the company, as shown in the figure:

Cash from operating activities

Cash that relates to your primary business. This is called cash from operating activities. The first entry here is the profit or loss from the business (copied right from the bottom of the income statement). The rest of the entries are adjustments because not all profits or losses are manifested in cash. So, for example,

  • Depreciation was shown on the income statement and contributed to expenses (and thus a decrease in profit), but unlike other expenses, it incurred no corresponding reduction to cash. Therefore the first thing we do on the cash flow statement is add back in the amount of depreciation as positive cash.
  • Any decrease (or increase) in accounts receivable between the last period and the current period must be reported here as an increase (or decrease) in cash. Notice that if customers pay you during the current month for something that they purchased in a previous month, no entry is made on the income statement, but you did have a positive cash event. That cash event is recorded on this line.
  • Any increase (or decrease) in accounts payable must be added to (or subtracted from) the cash from operating activities on the cash flow statement for the same reason as explained above for accounts receivable.
  • If there is any change in the accrued liabilities between the last period and the current period, that change needs to be added to or subtracted from cash on the cash flow statement.
  • Any changes to inventory would not be reflected in your income statement but would affect cash. Specifically, if you increased your inventory since the previous period, that needs to be reflected as a net cash loss, and a decrease would be reflected as a net cash gain.

The sum of the above items is shown as the net cash provided (used) by operating activities.

Cash from investing activities

Cash that relates to your major purchases (or sales) of fixed assets (e.g., real estate, equipment, vehicles, computers, and so on.) This is called cash from investing activities. Notice that although such major purchases cannot be subtracted from your earnings in the current year (that’s why they don’t appear on your income statement), they do impact cash! The full amount of their purchases is recorded here because the company is incurring the entire cost of the asset from a cash perspective. Their sum is shown as the net cash provided (used) by investing activities.

Cash from financing activities

Cash that relates to financing your business, e.g., loans you accept (or make payments on) and investments received or stock repurchases made by the company. This is called cash from financing activities, and is shown on two separate lines, one for investments, and one for loans. Notice that loans and investments you accept have no effect on your income statement but have a significant effect on your cash . . . which is why they appear here! Their sum is shown as the net cash provided (used) by financing activities.

Summary lines on cash flow statement

At the bottom of each column appear a few summary lines:

  • The net increase (decrease) in cash line shows the sum of the net cash subtotals from the three aforementioned sections.
  • The cash at beginning of period starts at zero when the company is founded. Each subsequent year just copies the value from the end of the previous year.
  • The cash at end of period is calculated by adding the net increase (decrease) in cash to the cash at beginning of period.  A quick check should be performed to make sure that this value equals the top line (i.e., cash and cash equivalents) of the balance sheet. Make sure you are comparing a cash flow statement that ends on the same date as the date of the balance sheet.

Pro Forma Cash Flow Statement for NewCo, Inc. 

 

 

 

 

 

 

 

 

 

 

Fiscal Year 1

Fiscal Year 2

Fiscal Year 3

Fiscal Year 4

Fiscal Year 5

CASH FLOWS FROM OPERATING ACTIVITIES 

 

 

 

 

 

   Net (loss) profit

($718,080)

($266,052)

$275,040

$896,548

$1,198,368

   Adjustments to reconcile net cash used by operating activities:

 

 

 

 

 

      Depreciation

8,328

8,328

13,332

26,670

35,004

      Income Tax

 

 

 

 

 

   Changes in operating assets and liabilities:

 

 

 

 

 

      Accounts receivable

(833)

(56,042)

(85,000)

(80,949)

(99,284)

      Accounts payable

8,402

4,615

7,881

19,925

42,295

      Accrued liabilities

52,917

13,758

(8,330)

2,913

3,062

      Inventory

(26,577)

(11,680)

(31,520)

(68,561)

(233,537)

   Net Cash Provided (Used) by Operating Activities

($675,843)

($307,073)

$171,403

$796,546

$945,908

 

 

 

 

 

 

CASH FLOWS FROM INVESTING ACTIVITIES 

 

 

 

 

 

   (Purchase or) sale of fixed assets

(50,000)

0

(30,000)

(100,000)

0

   Net Cash Provided (Used) by Investing Activities

(50,000)

0

(30,000)

(100,000)

0

 

 

 

 

 

 

CASH FLOWS FROM FINANCING ACTIVITIES 

 

 

 

 

 

   Issuance of stock

830,000

465,000

0

0

0

   Proceeds from (payments on) notes payable

0

0

0

0

0

   Net Cash Provided (Used) by Financing Activities

830,000

465,000

0

0

0

 

 

 

 

 

 

Net Increase (Decrease) in Cash

104,157

157,927

141,403

696,546

945,908

 

 

 

 

 

 

Cash at Beginning of Period

0

104,157

262,084

403,487

1,100,033

Cash at End of Period

104,157

262,084

403,487

1,100,033

2,045,941

 

 

 

 

 

 

The above is extracted from my latest book, Will Your New Start Up Make Money? Buy your copy in Kindle at http://www.amazon.com/Will-Your-Start-Make-Money-ebook/dp/B00JOOZQNE or paperback format http://www.amazon.com/Will-Your-Start-Make-Money/dp/0996028307