What is a Cash Flow Statement vs Profit and Loss Statement? Learn it right here!
Your financial statements are the key to understanding the financial health and profitability of your business. Without them, it can be a struggle to determine the best strategic decisions for your company to expand and thrive. But what does each financial statement mean, and how can you use them together to understand your company’s finances? Let’s start by learning what a cash flow vs profit and loss statement.
What is a Cash Flow Statement?
A cash flow statement summarizes the movement of cash and cash equivalents coming in and out of your company, thus giving you the ability to see how well your company is managing its cash position. Your cash flow statement also shows how well your company generates cash to cover its debt obligations and fund operating expenses. As one of the three main financial statements, your bookkeeper or accountant typically will provide a cash flow statement on a monthly or quarterly basis.
Components of a Cash Flow Statement
The components of a cash flow statement include the following:
- Cash flow from operating activities
- Cash flow from investing activities
- Cash flow from financing activities
- Disclosure of non-cash activities
Cash from operating activities includes any sources or uses of cash from business activities, reflecting the cash generated from a company’s products or services. Operating activities can include:
- Receipts from sales
- Interest payments
- Income tax payments
- Payments to vendors or suppliers
- Salary and wage payments
- Rent payments
- Other operating expenses
Changes made in cash, accounts receivable, depreciation, inventory, and accounts payable are generally reflected in your company’s cash from operating activities.
Cash from investing activities involves any sources or uses of cash from your company’s investments. That can include sales of your assets, loans made to vendors or received from customers, and payments related to mergers or acquisitions. Essentially if there is a change to your equipment, assets, or investments, then it will fall into this category. Cash-out reflects purchasing new equipment, buildings, or short-term assets, while cash-in reflects when a company sells or divests itself of an asset.
Cash from financing activities involves sources of cash from your financial institution or investors, as well as any dividends or cash paid to shareholders. Cash-in for this category means capital was raised, but cash-out is when dividends are paid. Issuing a bond, for instance, allows you to receive cash financing, but when you pay interest to the bondholder, you are reducing your company’s cash (cash-out). However, interest is reported as an operating activity on your cash flow statement.
Your bookkeeper or accountant can assist in determining where your cash movements should be placed, but they can also assist with disclosing any non-cash activities to keep your cash flow statement accurate.
What Is a Profit and Loss Statement?
A profit and loss statement summarizes the revenue, costs, and expenses your company incurs during a specific period, providing essential information to demonstrate the ability or inability to generate profit. They are presented on a cash or accrual basis. Most companies use the accrual basis, which means revenue is recognized when earned rather than when it is received.
Components of a Profit and Loss Statement
There are five categories within your profit and loss statement, incorporating the following:
- Revenue or gross income from all sources, including income from sales, interest, and subscriptions
- Direct costs (COGS) are directly associated with revenue generation through inventory or manufacturing
- Gross profit, which is revenue minus direct costs
- Expenses, which include operating and non-operating ones
- Operating profits, which is the cash left over after paying all the expenses.
Comparing profit and loss statements from several accounting periods allows you to identify trends in spending and sales. This analysis gives you the data necessary to determine cost-saving measures and increase efficiency. When used together, the profit and loss statement, the balance sheet, and the cash flow statement provide an in-depth look at your company’s financial performance during a specific period.
The Difference Between A Cash Flow Vs Profit and Loss Statement
There are several differences between a cash flow and profit and loss statement since they each present financial information in a different way to help you understand your company’s financial position.
- A profit and loss statement measures the profitability of your business model.
- A cash flow statement shows where your cash comes from, where it goes, and how much you have available at any given point in the month.
- A profit and loss statement helps you determine if your business is profitable or not and what changes might be necessary to achieve profitability.
- A cash flow statement tells you how much cash is on hand to make payroll or purchase equipment.
- A cash flow statement reveals the cash position of your company between two financial years.
Clearly, there are benefits and information to be gleaned as you make decisions about the future direction of your business from these financial statements. But which is the most critical?
Which Is More Important? Cash Flow vs Profit and Loss Statement?
Both the cash flow statement and the profit and loss statement are integral parts of a corporate balance sheet. They serve different purposes and provide distinct insights into a company’s financial health. Since the cash flow statement measures sources of cash and its uses, you can see how your cash flow moves throughout the month and year. On the other hand, the profit and loss statement measures your overall financial performance by showing your revenues, expenses, profits, and losses.
Both are important for assessing a company’s financial position but provide different perspectives. Your cash flow statement provides insights into liquidity and short-term viability, while your profit and loss statement provides insights into the overall financial performance.
How to Interpret Cash Flow and Income Statements
To interpret a cash flow statement, you need to do the following:
- Look at the operating activities section to see how much cash was generated from the core business. A negative operating cash flow indicates financial problems.
- Look at the investing activities section to see how much cash was spent or received from its investments. A negative investing cash flow can indicate growth or expansion.
- Look at the financing activities to see how much cash was raised or paid to its creditors and shareholders. A negative financing cash flow can indicate debt repayment or dividend distribution.
- Use ratios to evaluate the company’s cash flow performance.
By following these steps, you can get a detailed picture of what happened to your company’s cash during a specific period and demonstrate your company’s ability to operate in the short- and long term.
To analyze your profit and loss statement, follow these steps:
- Check your bottom line to see if your business is making money or not.
- Check your income streams and expenses to identify your main sources of revenue and costs.
- Compare your numbers over time, and use industry benchmarks to evaluate your performance.
- Examine your margins to find areas for change to create more efficiency and profitability.
- Double-check your math to ensure your accuracy and consistency.
When you look at both statements together, you can start to see where your cash is going and how that could impact your profitability over time.
To get a complete picture of your financial situation, your company needs both of these statements, since they give you different information, which can be compared to find issues and then get them fixed.
Frequently Asked Questions
What is the key difference between profit and cash flow?
Profit is the revenue remaining after deducting business costs, while cash flow is the amount of money flowing in and out of your company at any given time. While profit indicates your company’s success, cash flow is more important to keep the business operating on a daily basis.
Is an income statement the same as a cash flow statement?
No. An income statement measures a company’s financial performance over a specific period, while a cash flow statement measures the sources of a company’s cash and its uses.
Is cash flow statement better than income statement?
A cash flow statement presents a clearer view of your cash flows than an income statement, since it might present skewed results under the accrual basis of accounting.
Which is more important, cash flow or profitability?
Cash flow is more important than profit because it keeps your business operating daily. By measuring your cash flow, you can uncover operational issues and see what money is available to repay debts. It is also a reliable determiner of growth. Over the long term, a lack of profit exerts a negative impact on the cash flow of the company.
What Is AccountsBalance?
AccountsBalance is a monthly bookkeeping service specialized for agencies & SAAS companies.
We take monthly bookkeeping off your plate and deliver you your financial statements by the 15th or 20th of each month.
You’ll have your Profit and Loss Statement, Balance Sheet, and Cash Flow Statement ready for analysis each month so you and your business partners can make better business decisions.
Interested in learning more? Schedule a call with our CEO, Nathan Hirsch.
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The cash flow and profit and loss statement are key indicators of the financial health of your business. Cash flow and profitability are both important financial metrics, but they both serve different purposes. Profitability indicates how efficiently you are using your resources to generate revenue, but cash flow shows how much cash you have available to pay bills, invest in expansion efforts, and grow your business.
In general, companies need to have positive cash flow to survive and grow. Even if you are profitable, you can still face financial trouble if there is not enough cash on hand to pay the bills. Therefore, while profitability is important, effective cash flow management is critical for the long-term health of your company. Knowing where your company stands in both of these areas through your financial statements is a necessary first step for the success of your company.