Understanding a cash flow statement is crucial for any business, whether it’s a startup, an established company, or even an investor looking to make informed decisions.
In the Indian business landscape, this document is especially important because it provides a clear picture of how money is flowing into and out of the business, which helps in managing operations, debt, and investments effectively.
In India, where businesses often deal with diverse financial challenges, such as fluctuating currency, changing tax regulations, and evolving market conditions, having a solid grasp of cash flow is indispensable.
Let’s break down the process of preparing and interpreting a cash flow statement in simple, easy-to-understand terms while relating it to the Indian business environment.
What Is a Cash Flow Statement?
A cash flow statement is a financial report that tracks how cash moves in and out of a business during a specific period (e.g., monthly, quarterly, or annually). It’s different from profit-and-loss statements because it focuses purely on cash, meaning actual money that comes into or leaves the business.
Understanding this distinction is important, especially when managing a business in India, where cash liquidity is crucial for day-to-day operations.
For Indian businesses, where cash flow may fluctuate due to factors like GST payments, seasonal sales, or loan repayments, a cash flow statement provides transparency into the financial health of the business. It’s a vital tool for business owners, investors, and managers to evaluate how well the business is managing its cash and whether it can meet short-term obligations like paying suppliers, employees, or tax dues.
The Three Key Sections of a Cash Flow Statement
A cash flow statement is divided into three main sections:
- Operating Activities
- Investing Activities
- Financing Activities
Let’s explore these sections in detail, particularly in the Indian context:
1. Operating Activities
Operating activities involve cash flows from a company’s core business operations, like selling goods or services. This includes cash receipts from customers, cash payments to suppliers, employees, and other operational expenses.
Examples include:
- Cash inflows: Revenue from sales, receipts from debtors (people who owe the company money), and any advance payments.
- Cash outflows: Payments for raw materials, salaries, rent, utilities, and taxes like GST (Goods and Services Tax).
These are the regular, everyday tasks of running your business.
Key Points for Indian Businesses:
- Businesses need to carefully track their GST payments and input credits to ensure cash flow isn’t compromised.
- Small and medium-sized enterprises (SMEs) in India, particularly those in manufacturing or agriculture, may face uneven cash flow due to seasonal sales patterns. These fluctuations are captured in the operating activities section of the cash flow statement.
2. Investing Activities
This section deals with cash spent or earned from buying or selling long-term assets, such as property, equipment, or intellectual property (e.g., patents or trademarks).
For Indian companies, this could include investment in machinery, real estate, or shares of other companies.
Examples:
- Cash inflows: Proceeds from the sale of a building, land, or equipment.
- Cash outflows: Purchase of machinery, land, or other long-term investments.
This includes long-term investments made for future returns.
Key Points for Indian Businesses:
- The Indian government encourages businesses to invest in infrastructure through various schemes like the Make in India initiative, and these investments would appear under investing activities in the cash flow statement.
- Additionally, Indian companies may also report any income from the sale of fixed assets, which could be influenced by changes in capital gains tax or asset depreciation rules.
3. Financing Activities
This section records cash flows from raising money (equity financing) or borrowing (debt financing). It also includes cash outflows related to loan repayments or dividends paid to shareholders.
Examples:
- Cash inflows: Loans taken from banks, funds raised through issuing shares, or government grants.
- Cash outflows: Loan repayments, interest payments, or dividend payments to shareholders.
This section shows how you raise funds or repay them.
Key Points for Indian Businesses:
- Indian businesses often rely on bank loans and trade credit to fund operations, which are reflected in this section.
- Companies listed on the Bombay Stock Exchange (BSE) or National Stock Exchange (NSE) may have cash inflows from issuing shares or bonds. Additionally, businesses must also account for dividends paid to Indian investors under this section.
How to Prepare a Cash Flow Statement in India
Preparing a cash flow statement in India follows the same basic principles as globally recognized accounting methods like Generally Accepted Accounting Principles (GAAP) or International Financial Reporting Standards (IFRS).
However, there are a few specific considerations for Indian businesses, such as tax regulations, GST adjustments, and Ind AS (Indian Accounting Standards) compliance.
Here’s a step-by-step guide to prepare a cash flow statement for your business in India:
1. Determine the Starting Cash Balance
The first step is to know the cash available at the beginning of the period you’re reporting on (e.g., the start of the month, quarter, or year). This figure is usually available in your balance sheet from the previous period.
2. Calculate Cash Flow from Operating Activities
To calculate cash flow from operations:
- Start with the net income (profit) from your income statement.
- Adjust for non-cash items like depreciation, amortization, or provisions.
- Add or subtract changes in working capital, such as changes in accounts receivable, accounts payable, and inventory.
If you’re using the indirect method, you’ll begin with net income and make these adjustments. Alternatively, you can use the direct method, which involves listing all cash transactions separately.
Important for Indian Businesses:
Pay close attention to GST payments and receivables from customers. Businesses may receive payments or make expenses that are affected by GST credit adjustments, which need to be accounted for in this section.
3. Calculate Cash Flow from Investing Activities
For investing activities:
- Look at cash spent on buying new assets like machinery, real estate, or intangible assets.
- Account for any cash received from selling long-term assets like property or old machinery.
4. Calculate Cash Flow from Financing Activities
This section will include:
- Cash inflows from new loans or capital raised from shareholders.
- Cash outflows for repaying loans, paying interest, or distributing dividends.
Key for Indian Businesses:
Indian businesses often rely on bank loans, and any changes in the Repo rate or Monetary Policy announced by the Reserve Bank of India (RBI) may affect cash flow. Also, businesses might be involved in government-backed schemes, especially for startups or MSMEs, which will influence financing activities.
5. Calculate the Ending Cash Balance
The ending cash balance is the sum of the starting cash balance and the net cash flow from operating, investing, and financing activities.
How to Read and Interpret a Cash Flow Statement in India
Reading a cash flow statement involves understanding the financial health of a company, particularly how much cash it generates from its operations versus how much it spends.
- Positive Cash Flow: A business in India with positive cash flow is in a strong position to reinvest in growth, pay off debts, and sustain operations.
- Negative Cash Flow: Negative cash flow doesn’t always mean bad news, it could indicate a company is investing heavily in assets or expanding. However, if it persists, it might indicate liquidity issues.
In India, businesses must also be mindful of regulatory changes such as GST rules, tax reforms, and demonetization (if applicable) that could impact cash flows. Keeping track of working capital and managing accounts payable and receivable effectively is key to maintaining good cash flow.
Here’s what to look for:
- Positive operating cash flow → The business is profitable in real terms.
- Investing cash outflows → Company is expanding (generally good).
- Reasonable financing activity → Taking or repaying loans carefully.
Did you know? Even if your P&L shows profit, a negative operating cash flow is a red flag—it means your business might be in a liquidity crunch.
Why All Financial Statements Are Connected
By now, you’ll notice:
- Cash flow tells you how much money you actually have.
- Balance sheet tells you where the money is (assets and liabilities).
- Income Statement (P&L) tells you how much you earned and spent.
For example, the cash at the end of the cash flow statement appears under “Current Assets” in the balance sheet. Depreciation from the P&L also affects the balance sheet’s value of fixed assets.
If you’re running a small business, here’s how you can apply this knowledge:
- Don’t rely only on sales or profit numbers—look at cash in hand.
- Track your daily cash inflows and outflows in simple categories: operations, investments, and financing.
- Revisit your cash flow monthly or quarterly to spot patterns early.
- Maintain a buffer of liquid cash for urgent expenses, like rent or EMI.
Conclusion
In the Indian business context, a cash flow statement is not just a financial tool; it’s an essential part of managing a company’s liquidity and growth. Whether you’re a small startup in Bangalore or a large corporation in Mumbai, understanding how to create, interpret, and use cash flow statements can make the difference between success and failure.
By mastering this important document, Indian businesses can ensure they have enough cash to cover daily expenses, make smart investments, and navigate challenges like changing taxes or fluctuating demand. With accurate financial management, companies can build a strong foundation for sustainable growth in an ever-changing market.
This guide simplifies the process for you while ensuring that you understand the essential role of a cash flow statement in managing your business in India effectively.
