There are a number of different sections in a business’s cash flow statement. Cash flow from financing activities is one and it’s critical to understand what it means and why it’s important.
In essence, it details the cash that is flowing in and out of the company as a direct result of the business’s financing activities.
For example, if you apply for funding or seek external investment, the financier will look at your cash flow statement and check the cash flow from financing activities. This will give them a stronger understanding of your business’s financial health or lack thereof.
In this guide, we’ll help you understand all there is to know about cash flow from financing activities.
Cash Flow Statement
There are three primary reports that companies need to produce in relation to finances.
1. Income statements
2. Balance sheets
3. Cash flow statements
Businesses generally use accrual accounting methods to create their regular cash flow statements. These statements in turn allow valuators, creditors, investors or auditors to track the movement of capital in a given period.
Accrual accounting includes the reporting of income and expenses as soon as the invoices are raised or invoices received.
Types of Cash Flow
On your cash flow statement, you will notice a number of categories under which certain inflowing and outgoing cash flow is listed.
The purpose of these categories is to organise the different sources and types of cash flow in a business. When you look at your cash flow statement, it is easy to get a clear picture of the movement of capital through the business by knowing which category each movement falls into.
Cash Flow from Operations
As a business, your everyday operations will create cash flow. This can include net income coming into the business or operational expenses to keep business activity going. All of this is categorised under the aptly named cash flow from operating activities.
Cash Flow from Investing
Businesses have investments in capital assets such as equipment, machinery or property. Any income or expenses related to these assets are categories in the cash flow from investing activities.
Cash Flow from Financing Activities
The last category refers to any income or outgoings that are caused by debt and equity financing. This can include repayments on business loans or paying dividends to shareholders.
To see an example of a cash flow statement, click here to see the business.govt.nz statement from a fictional business.
In the above example, you can see that the business received $50,000 in cash as part of a business loan. After repaying $20,000 of the loan and $10,000 in dividends, the net cash flow from financing activities was $20,000.
Defining a Financing Activity
Any transaction in which there is a flow of cash from a company to a source of finance or vice versa is classified as cash flow financing activity.
Some examples can include borrowing and repaying short or long-term business loans and associated liabilities. It can include issuing or re-acquiring shares of common or preferred stock. And, as mentioned, it can include paying cash dividends to shareholders of a company.
Positive entries into the cash flow statement indicate that money is coming into the business. This can be borrowed funds or cash for bonds and shares.
Any cash flowing out of the business as part of repaying a loan, paying out dividends or other associated financing costs is recorded on the statement as a negative value.
The cash balance will be the sum total of all of the cash flow from financing activities.
Calculating Cash Flow From Financing Activities
Here’s a simple five-step guide for calculating cash flow from financing activities.
1. Add together all of the cash flow coming into the business as a result of either debt or equity. We will refer to this as CED or cash inflows from issuing equity or debt.
2. Add together all of the total cash paid by the business as dividends, i.e. CD – cash paid as dividends.
3. Next, add together the cash incurred by repaying the debt or repurchasing equity, i.e. RP – repurchase of debt and equity.
Now you have your core three values: CED, CD and RP.
4. Add CD and RP to get your total cash flowing out from the business.
5. Subtract this total sum from the total cash flowing into the business, CED.
This value is your net cash flow from financing activities.
If the net cash flow value is positive, more money is coming into the business than is going out; If it is negative, then more money is going out of the business than coming in (from financing activities).
Calculation Formula
CED − (CD + RP) = Net Cash Flow From Financing Activities
Calculation Example
| Cash inflows | Cash outflows | Net cash flow from financing activities | |
| Cash from loans | $750,000 | ||
| Repayment of loans | $500,000 | ||
| Payment of dividends | $100,000 | ||
| Repurchased equity | $75,000 | ||
| Total | $750,000 | $675,000 | $75,000 |
In the above example, the net cash flow from financing $75,000.
Healthy vs Unhealthy Cash Flow from Financing Activities
There is no objective, hard value that determines if a business’s cash flow from financing activities is healthy or not.
In most instances, the net cash flow from financing will be looked at in comparison to the business’s operating activities. High levels of operational activity and income, coupled with low or even negative net cash flow from financing activities, can indicate that a business is actively paying off debt.
Similarly, high net cash flow from financing activities but low operational activities can make some investors worried about sustainable debt servicing in the long term. By the same token, if most of your cash flowing into the business is generated through debt, investors will want to see that the business is generating sufficient revenue to cover the significant repayments.
Financing activities are invaluable in supplementing and complementing growth of a business’s operations or to help fund business expansion, growth opportunities or other innovation. When operating activities are not the main source of cash flowing into a business, there may be reason to be more concerned.
The Role of Invoice Finance
Invoice Finance is a working capital solution that enables businesses to access the value of unpaid invoices that are owed to their business.
As an immediate source of funding, businesses do not need to wait the full payment term to see the revenue flow into the business. Up to 95% of invoices’ value can be funded upfront with the remaining 5%, less fees, once the invoices are paid.
With Invoice Finance, the capital is not sourced by the sale of equity or through a loan. Associated cash flow is considered an off-balance sheet form of funding and categorised instead as cash flow from business operations.
As far as investors and financiers are concerned, this will factor as a more favourable ratio and help your business secure additional financing without breaking terms of any existing loans or financing obligations.
However, you may be required to disclose the funding arrangement as a footnote on your cash flow statement.
Nevertheless, it offers an invaluable cash flow solution for small and medium sized businesses in particular.
Learn More About ScotPac’s Business Finance Offerings
Across New Zealand and Australia, ScotPac has supported over 8,000 businesses over 35 years and funds $27.3 billion worth of invoices annually. Our lending specialists are not just experts in tailoring Invoice Finance solutions for businesses of all sizes, they are also believers that every business should be able to access the funding they need to fuel sustainable growth.
