How to Read a Financial Report: Wringing Vital Signs Out of the Numbers, 8th Edition

CHAPTER 1

STARTING WITH CASH FLOWS

Cash Flows Summary for a Business

Savvy business managers, lenders, and investors pay a lot of attention to cash flows. Cash inflows and outflows are the heartbeat of every business. Without a steady heartbeat of cash flows, a business would soon have to go on life support, or die.

So, we start with cash flows. For our example we use a business that has been operating many years. This established business makes profit regularly and, equally important, it keeps in good financial condition. It has a good credit history, and banks lend money to the business on competitive terms. Its present stockholders would be willing to invest additional capital in the business, if needed. None of this comes easy. It takes good management to make profit consistently, to secure capital, and to stay out of financial trouble. Many businesses fail these imperatives, especially when the going gets tough.

Exhibit 1.1 summarizes the company’s cash inflows and outflows for the year just ended, and shows two separate groups of cash flows. First are the cash flows of its profit-making activities—cash inflows from sales and cash outflows for expenses. Second are the other cash inflows and outflows of the business—raising capital, investing capital in assets, and distributing some of its profit to shareowners.

We assume you’re fairly familiar with the cash inflows and outflows listed in Exhibit 1.1. Therefore, we are brief in describing the cash flows at this early point ...