How to Prepare a Cash Flow Statement for a Startup

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TLDR

For your startup, the three most critical financial reports are: the balance sheet, the income statement, and the cash flow statement.
By digging into all three financial reports, investors, lenders, founders, and managers can objectively assess a startup's financial health and effectiveness at any given point in time.
The cash flow statement reports the cash flowing into the startup through sales and the cash flowing out through expenses and other financial obligations.
Simply, a cash flow statement tracks the cash coming in and going out of the startup over a certain period.
By measuring your startup’s cash inflows and outflows, you can objectively measure how well it generates cash, pays its obligations, and funds current and future operating expenses.
The cash flow statement elements include the cash from operating activities, investing activities, and financing activities.
The two primary ways of calculating the cash flow of your startup are the direct and indirect methods.
When you first launch your startup, your cash flow statement will reflect any initial cash contributions from the founders in addition to any small business loans -- recording these as inflows of cash. Additionally, if you have purchased computers, printers, or office furniture when setting up your initial office, you’ll include these expenses as outflows of cash.
By understanding your startup’s cash inflow and outflow, you can better grow your business while avoiding financial hardships or collapse. The better you know your cash flow, the more precisely you can predict your future, such as expanding into additional markets or hiring new employees. Further, by having a firm grasp on your cash, you can better prepare for seasonal ups and downs, positioning yourself for any bumps in the road.
The benefits of preparing a cash flow statement for your startup far exceed any drawbacks or limitations. A cash flow statement is a financial tool that you should regularly use in your startup, helping you run your business efficiently, cost-effectively, and profitably.

Introduction

The three most critical financial reports for startups are the balance sheet, the income statement, and the cash flow statement. By digging into all three financial reports, investors, lenders, founders, and managers can objectively assess your startup's financial health and effectiveness at any given point in time.

The cash flow statement reports the cash flowing into your business through sales and the cash flowing out of the business through expenses and other financial obligations. Since so much of business success depends on cash flow and profits, the cash flow statement provides critical insight into a startup’s ability to generate cash while satisfying your liabilities, such as current accounts payable.

In this article, we’ll explore cash balance statements for startups and the components of such cash balance statements. Further, we’ll highlight some cash balance statement templates.

What is a Cash Flow Statement?

A cash flow statement also called a "statement of cash flows," is one of the three most important financial statements. In a nutshell, a cash flow statement tracks the cash coming in and going out of the startup over a certain period.

A cash flow statement is broken into three categories:

Operating activities
Investing activities
Financing activities

Image: Corporate Finance Institute (CFI).

A founder takes the cash in and cash out for each of these categories, ultimately resulting in the startup’s closing cash balance. To calculate the closing cash balance, use the following equation:

Closing cash balance =

Opening cash balance on the first day of the month + Income Totals – Expenses Total

By measuring your startup’s cash inflows and outflows, you can objectively measure how well your business generates cash, pays its obligations, and funds current and future operating expenses. Essentially, the cash flow statement measures the actual money your startup receives, objectively measuring its effectiveness.

Elements of a Cash Flow Statement

As stated above, the components of a cash flow statement include the cash from operating activities, investing activities, and financing activities. Let’s break down each one.

Cash from Operating Activities

One element highlights the operating cash flow of a startup. Operating cash flow is the amount of cash that a startup generates from its products or services over a specific period, such as over a month, quarter, or year.

For example, operating activities may include:

Payments received for products and services
Salaries paid to employees
Payments made to suppliers
Rent payments
Interest payments
Income tax payments

The cash flow from a startup’s operating activities typically represents the top position on a cash flow statement.

Cash from Investing Activities

The second element of a cash flow statement includes the cash from investing activities. As a startup, you may invest in purchasing or selling an asset, such as an office building, manufacturing equipment, or security. The cash flow related to these types of investment activities demonstrates how much cash has been generated as a result.

Often, a startup may experience a negative cash flow. Although that may not sound positive, the downward trend of cash may be solely related to significant amounts of cash being invested back into the startup when it comes to investing activities. This may occur, for example, when your startup invests money back into research and development, creating a temporary downturn in cash. Overall, however, this is not necessarily a negative, as the founders are investing in the startup's long-term success.

Cash from Financing Activities

The third element of a cash flow statement includes the cash from financing activities. Financing activities include any cash received from investors or banks, cash or dividends paid to shareholders, or corporate loans' repayment.

Understanding the cash from financing activities gives founders, strategic advisors, and investors insight into a startup’s cash flows – both in and out. For example, a positive cash flow from financing activities indicates that your startup has increased its asset levels. On the other hand, like cash from investing activities, a negative number can demonstrate commitment to the company’s further growth, such as paying off a long-term debt or distributing dividend payments to shareholders.

How is Cash Flow Calculated?

As stated earlier in this article, we already know that we calculate a startup’s closing cash balance by adjusting the opening cash balance with applicable income and expenses over a specific period.

So, now, let’s dig in a bit more.

The two primary ways of calculating cash flow are the direct and indirect methods. With the direct method, as a founder, you will add up all the startup’s cash payments, including those received from customers, those paid to suppliers, and any paid out to employees in salaries and wages. To determine your progress, you use your beginning and ending balances over a specific period, such as a month or quarter, further examining the net increase or decrease over that period.

With the indirect method, operating cash flow is first calculated by taking the startup’s net income figure directly from its income statement. Since an income statement is based on an accrual basis — meaning that income is only recognized when earned and not received — net income is not always an accurate indication of the inflows and outflows of a startup’s operating cash. To reconcile this, you’ll need to adjust these numbers for earnings before interest and taxes (EBIT).

Further, it’s important to note that the cash flow statement does not consider any future incoming or outgoing cash due to credit. Thus, the cash flow statement figures, the income statement, and the balance sheet may differ because of this. Each financial report focuses on different financial aspects of your startup; however, all three work together, giving the founders, strategic partners, and investors a holistic view of its effectiveness and growth.

When Should a Startup Make a Cash Flow Statement?

Even if you are a startup, you shouldn’t delay creating a cash flow statement. The sooner you can get ahold of your business’s finances, the better. This is important advice for founders to heed.

When you first launch your startup, your cash flow statement will reflect any initial cash contributions from the founders in addition to any small business loans -- recording these as inflows of cash. Additionally, if you have purchased computers, printers, or office furniture when setting up your initial office, you’ll include these expenses as outflows of cash.

Remember, though, your cash flow statement is one of three critical financial statements, with the other two being the balance sheet and the income statement. As a new business, it would be prudent to hire a qualified accountant to help you navigate through these financial reports. It really is advisable to not try to create these yourself unless you have a solid financial background. Mistakes can be costly.

Why Should a Startup Track Its Cash Flow?

“Cash is king.” Although this quote's origins are unknown, many famous capitalists have used this phrase, including the iconic Jack Welch and Dave Ramsey. For any business, including startups, cash flow management is critical to a company’s success.

By understanding your startup’s cash inflow and outflow, you can better grow your business while avoiding financial hardships or collapse. The better you know your cash flow, the more precisely you can predict your future, such as expanding into additional markets or hiring new employees. Further, by having a firm grasp on your cash, you can better prepare for seasonal ups and downs, positioning yourself for any bumps in the road.

Examples of Startup Cash Flow Templates

Below is an example of a cash flow statement template, showing operating cash flow, investing cash flow, financing cash flow, and the closing cash balance over a set annual period.

Image: Corporate Finance Institute (CFI).

How the Cash Flow Statement Links to the Balance Sheet and Income Statement

Here’s an example showing the relationship of these three crucial financial reports: the income statement, the balance sheet, and the cash flow statement.

Image: Corporate Finance Institute.

Benefits

We already know that you need to track your cash, especially as a startup. Behind lack of market need, most startups fail because they ran out of cash. Therefore, tracking your money can contribute to the success of your business.

Preparing a cash flow statement for your start-up provides the following benefits:

Verifies your profitability position
Verifies your liquidity position
Verifies your capital cash position
Helps you better manage your cash, currently and in the future

Limitations

Like anything, there are pros and cons. Here are some limitations associated with preparing a cash flow statement for your startup.

A cash flow statement does not present your actual net income since it does not consider non-cash items. To determine this exact amount, you’ll need to examine both your cash flow and income statement.
A cash flow statement is not a replacement for your income statement. Each brings different financial aspects of your startup to the table, both of which are important to your startup's overall financial health.
A cash flow statement does not predict future cash flows, as a cash flow statement only tracks financial information during a specific period.
It takes time, money, and expertise to prepare a solid cash flow statement.

Even with these limitations, the benefits of preparing a cash flow statement for your startup far exceed any drawbacks or limitations. A cash flow statement is a financial tool that you should regularly use in your startup, helping you run your business efficiently, cost-effectively, and profitably.

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If you're looking for help understanding or creating your cash flow statement, we can get your documentation ready, overall shepherding this process to ensure it's done right, get in touch with us.

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