Where Did All My Money Go? Understanding the Statement of Cash Flows

If you’re like most QuickBooks users, you rely on the Profit & Loss Standard report to monitor how your business is doing. However, you may have noticed that it rarely, if ever coincides with what’s in your bank account (hint: it’s not supposed to). An overlooked, yet valuable report, is the Statement of Cash Flows. The Profit & Loss Standard (P&L), provides only partial insight into the health of your business – what you earned and spent. The Statement of Cash Flows explains your change in cash on hand.

Cash versus Accrual

Unlike some accounting packages, QuickBooks allows you to run most reports on either the cash or accrual basis. Cash-basis means that transactions don’t appear on your Profit & Loss statement until either your customer pays their invoice or you pay a vendor (or employee). So, if you enter a bill in QuickBooks to be paid later, the expense won’t immediately appear on a cash-basis P&L. Similarly, invoices that you send to customers won’t immediately appear on a cash-basis P&L. The expense appears when you write a check to the vendor, and the revenue appears when the customer pays their invoice. Accordingly, cash-basis reports don’t necessarily report a company’s true financial performance. You could have a stellar looking Profit & Loss Report, but a bunch of unpaid bills in QuickBooks.  For that reason, many accountants prefer that business owners use accrual-basis reports.

                                                                                                                                                         Figure 1: Cash-basis reports only reflect paid transactions.

Accrual-basis reports recognize the effect of every transaction on your P&L immediately. Customer invoices appear on accrual- basis P&L reports as soon as you save the transaction, as do unpaid vendor bills. You can easily see the significance of these differences in Figures 1 and 2.

Figure 2:Accrual-basis reports include all transactions–both paid and unpaid

Accrual-basis reports provide a much better picture of where the business stands, but can make it harder to understand your current cash position. However, a cash-basis P&L isn’t the panacea for managing cash flow. Your business has many transactions that affect your Balance Sheet instead of the P&L, such as loan payments or owner distributions. (Remember, the Balance sheet tracks assets, liabilities, and equity.) The Statement of Cash Flows explains your change in actual cash balance based on all your cash transactions – whether they affect the Balance Sheet or P & L, making it a great addition to Balance Sheet and P & L.  (Audited financial statements are required to show all 3 reports.)  So let’s take a closer look.

The Statement of Cash Flows

Suppose your cash balance at the beginning of your fiscal year was $100,000, and today it is $75,000. The net income figure on your P&L won’t give you the full details on why your cash balance decreased, but the Statement of Cash Flows will. To do so, choose Reports > Company & Financial > Statement of Cash Flows.

This report automatically defaults to This Fiscal Year-To-Date, but you can choose another time period if you wish.   If this is your first time, I recommend starting with 1 month, (no more than 1 quarter), until you are more comfortable with reading it.

Your Statement of Cash Flows report will include up to three major sections, as highlighted in Fig. 3. (Don’t worry if your report only includes one or two of these sections — sections appear only when you had relevant transactions during the report period.

  1. Operating Activities
  2. Investing Activities
  3. Financing Activities

Figure 3: Statement of Cash Flows

Operating Activities

The Operating Activities section of the Statement of Cash Flows recaps activities related to running your business. This section will always start with Net Income (comes from the bottom line of your accrual-based P & L), followed by an Adjustments section. The Adjustments add or deduct to your Net Income. For instance, Net income is $112,999 but the Net Cash from Operating Activities is $42,584. The Statement of Cash Flows identifies the $70,415 difference. Let’s take a look at a few of the items:

Accounts Receivable (-$71,759): During the report period we sent invoices to our customers, of which $71,759 remain unpaid.  Because we included these invoices as income in our P & L but  have not actually received the payment, QuickBooks deducts them from the Net Income from the P & L.

Inventory Asset (-$17,354): Amounts that we spend on inventory don’t become part of Net Income on our P & L until we’ve sold the items. At that point QuickBooks posts the expense to Cost of Goods Sold, and reduces our inventory account accordingly.  But in this instance, we paid cash to purchase our  inventory, so we deduct that amount is deducted on our Statement of Cash Flows.

Remember: The purpose of the Statement of Cash Flows is to reconcile our Net Income with the actual change in our cash account(s). Thus non-cash activities, such as unpaid customer invoices or amortized prepaid expenses get subtracted or added from Net Income, so that you can get a clear picture of where cash went during the report period.

Accounts Payable ($13,537): We’ve entered bills into QuickBooks totaling $13,537 that we haven’t paid yet. While we deduct it on the accrual P & L, because we have not actually spent the money to pay those bills, we add that cash back in.

Federal Withholding: ($1,364): We’ve withheld income tax from employee paychecks in QuickBooks totaling $1,364 but we haven’t paid it yet, so we add that unpaid “deduction/liability” to our cash.

Want to know where QuickBooks got these numbers? Simply double-click the number in question to get a more detailed report.

Figure 4: A detailed report appears when you double-click on an amount within a QuickBooks report

Investing and Financing Activities.

As you look at the Statement of Cash Flows, you may also see one or two other sections:

Investing activities may include owner contributions as a source of cash, or in the case of the report in Figure 3, the purchase of $11,500 in furniture as a use of cash.

Financing activities will show borrowing on a line of credit or other loan as a source of cash, while loan repayments (excluding interest) will appear as uses of cash. In the end, you’ll see exactly what caused your cash balance to increase or decrease during the report period.


Organizing the Statement of Cash Flows

QuickBooks makes an educated guess at what accounts in your Chart of Accounts should appear on the Statement of Cash Flows. You may want your accountant to review this report to see if you need to change what accounts appear and in which section on the report.  If there needs to be any change(s), simply click the Classify Cash button then enter a checkmark in the appropriate column for the account(s) in question.

Figure 5: QuickBooks allows you to classify accounts as operating, financing, or investing activities

So next time you want to figure out why your bank balance and cash-based P & L don’t seem to agree, take a look at your Statement of Cash Flow.   I will admit, to those who don’t have accounting backgrounds, this may look a little confusing the first time or two (or three) that you look at it, but hopefully this article will help you understand it and you can get a better handle on your cash flow.  If you have questions, feel free to contact us or your accountant.

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