What are business activities?
– Definition: Business activities are the economic actions a company performs to operate and create value. In accounting, these actions are grouped into three categories—operating, investing, and financing—and those groupings appear on the statement of cash flows, which reports actual cash received and paid over a period.
Key terms (short definitions)
– Cash flow statement: A financial statement that reports cash inflows and outflows for a reporting period, broken into operating, investing, and financing sections.
– Operating cash flow: Cash generated or used by the company’s core day‑to‑day operations.
– Investing activities: Cash flows from buying or selling long‑lived assets or long‑term investments (capitalized assets).
– Financing activities: Cash flows related to raising capital and repaying investors or lenders (equity and debt transactions).
– Depreciation / amortization: Non‑cash expenses that allocate the cost of long‑lived assets over time; added back when converting accrual net income to cash.
– Capital expenditures (capex): Cash used to acquire or upgrade physical assets (equipment, buildings) that are expected to provide benefit for more than one year.
– Working capital: Short‑term operational balances such as accounts receivable, inventory, and accounts payable.
How the cash flow statement connects to business activities
– The cash flow statement converts accrual‑basis net income into cash flows. You start with net income (from the income statement) and then:
1. Reverse non‑cash charges (add depreciation, amortization).
2. Adjust for changes in working capital (e.g., increases in receivables reduce cash; increases in payables increase cash).
3. Report cash spent or received on long‑term assets under investing activities (capex, proceeds from asset sales).
4. Record cash from capital transactions under financing activities (new debt or equity, repayments, dividends, buybacks).
– Together the three sections show where cash came from and where it went, giving a clearer picture than net income alone.
What belongs in each category (practical checklist)
– Operating activities (day‑to‑day):
– Start with net income (if using indirect method).
– Add back non‑cash expenses (depreciation, amortization).
– Adjust for working capital movements: accounts receivable, inventory, accounts payable, accrued expenses.
– Include cash paid for interest and received interest/dividends if the company reports them here (classification varies).
– Investing activities:
– Purchases of property, plant, and equipment (capex) — cash outflow.
– Proceeds from sale of equipment, real estate, or business units — cash inflow.
– Purchases and sales of investments (long‑term securities), loans made to others, and collections on those loans.
– Financing activities:
– Cash received from issuing shares or debt.
– Cash paid to repay debt, repurchase shares (buybacks), and pay dividends.
– Some interest or dividend payments may be shown here depending on accounting policy.
Simple worked example (rounded numbers)
Assume a company reports:
– Net income: $200
– Depreciation (non‑cash): $30
– Accounts receivable increased (use of cash): $25
– Inventory increased (use of cash): $10
– Accounts payable increased (source of cash): $15
– Capex (purchase of equipment): $120
– Debt issued: $50
– Dividends paid: $20
Step‑by‑step cash flow impact:
1. Operating activities (indirect method):
– Start with net income: +200
– Add depreciation: +30
– Subtract increase in receivables: -25
– Subtract increase in inventory: -10
– Add increase in payables: +15
= Cash from operating activities = 200 + 30 – 25 – 10 + 15 = 210
2. Investing activities:
– Equipment purchase (capex): -120
= Cash from investing activities = -120
3. Financing activities:
– Debt issued: +50
– Divid
– Dividends paid: -20
= Cash from financing activities = 50 – 20 = +30
4. Net change in cash
– Cash from operating activities: +210
– Cash from investing activities: -120
– Cash from financing activities: +30
Net change in cash = 210 – 120 + 30 = +120
5. Ending cash (example)
– If beginning cash = X, then ending cash = X + 120.
– Worked example: if beginning cash = 80, ending cash = 80 + 120 = 200.
Quick notes and checks
– The cash flow statement explains how net income (accrual basis) becomes actual cash by adding back non‑cash items (depreciation) and adjusting for working capital changes (receivables, inventory, payables).
– Investing cash flows typically include capital expenditures (capex) and proceeds/consideration from asset sales; classify acquisitions separately.
– Financing cash flows include debt proceeds and repayments, and dividends paid. Interest paid is classified under operating activities under U.S. GAAP (may differ under some frameworks).
– Reconcile the statement of cash flows to the beginning and ending cash balances on the balance sheet to ensure arithmetic and classification consistency.
– Watch for one‑off or noncash financing/investing transactions (e.g., stock issued for assets, conversion of debt) that require footnote disclosure.
Simple checklist when preparing or analyzing a cash flow statement
1. Start with reported net income (indirect method) or total cash receipts/payments (direct method).
2. Add non‑cash expenses (depreciation, amortization, impairment).
3. Adjust for changes in working capital (A/R, inventory, A/P).
4. Separate and verify capex and proceeds from asset disposals.
5. Confirm debt issued vs. principal repayments and dividend payments.
6. Reconcile net change in cash to balance sheet cash balances.
7. Read footnotes for noncash transactions and classification policies.
Sources (reference)
– Investopedia — Business Activities and Cash Flow Basics: https://www.investopedia.com/terms/b/business-activities.asp
– U.S. Securities and Exchange Commission (SEC) — Beginner’s Guide to Financial Statements: https://www.sec.gov/investor/pubs/financial-statements.htm
– International Accounting Standards Board (IASB) — IAS 7 Statement of Cash Flows: https://www.ifrs.org/issued-standards/list-of-standards/ias-7-statement-of-cash-flows/
– Financial Accounting Standards Board (FASB): https://www.fasb.org
Educational disclaimer: This explanation is for educational purposes only and is not individualized investment advice or tax guidance. Consult a qualified professional for decisions specific to your situation.