Cash Flows From Investing and Financing

Cash flows from investing and financing are prepared the same way under the direct and indirect methods for the statement of cash flows.  To put it simply, if we RECEIVE CASH in the transaction we ADD the cash amount received and if we PAY CASH in the transaction we SUBTRACT the cash amount paid.

Investing Activities

Investing activities would include any changes to long term assets including fixed assets (also called property, plant and equipment), long term investments in notes receivable, or stocks or bonds of other companies, and intangible assets (patents, trademarks, etc.).  Where would we find this information?  We would look on the balance sheet.  If there was a change in any long term asset (increase or decrease during the year), we need to account for that item in the Investing section.  For our purposes, we will use the balance sheet and any additional information provided to us.

When analyzing the investing section, a negative cash flow is not necessarily a bad thing — you would need to look into the individual items of the investing section.  We could have a negative cash flow if we purchased a new building for cash but this would be a good thing for our company and should not been determined to be bad since the cash flow from investing could be negative.  Same if the reverse were true, what if we sold all of our long term assets and did not purchase any new assets — would this be a good thing for our company since we have a positive cash flow or a signal that something is going very wrong?

Here is a video to explain both investing and financing and then we will look at financing:

Financing Activities

Financing activities would include any changes to long term liabilities (and short term notes payable from the bank) and equity accounts (common stock, paid in capital accounts, treasury stock, etc.).  We would get most of the information from the balance sheet, but it may be necessary to use the Statement of Retained Earnings as well for any information on dividends.  As with investing, if there has been a change in a long term liability or equity (increase or decrease during the year), we must account for the item in the Financing section of the statement of cash flows.

When analyzing the financing section, just like with investing, a negative cash flow is not necessarily a bad thing and a positive cash flow is not always a good thing.  Once again, you need to look at the transactions themselves to help you decide how the positive or negative cash flow would affect the company.

To summarize our investing and financing sections, review this chart (remember, use the wording “provided” if positive cash flow and “used” if negative cash flow):

Cash flows from Investing activities:
+ cash received from sale of long term assets
– cash paid for purchase of new long term assets
Net cash provided (used) by Investing Activities
Cash flows from Financing activities:
+ cash received from long term liabilities
– cash paid on  long term liabilities
+ cash received from issuing stock
– cash paid for dividends
– cash paid to purchase treasury stock
Net cash provided (used) by Financing Activities

Non-cash investing and financing activities

What happens if we purchase a building by signing a mortgage with no cash down payment?  Or if we convert bonds payable to common stock, how would we account for these transactions?  These transactions do not involve cash but they are significant enough for investors to need to know.  We will report them in a separate section at the bottom of the statement of cash flows.  For example, assume a company did purchase a $100,000 building by paying $20,000 down in cash and signed a note for the balance of $80,000.  This would be reported as follows (note, the $20,000 down payment would be including in the investing section of the statement of cash flows):

Noncash investing and financing activities:
Purchased building for $100,000 by signing a note and a downpayment of $20,000 $80,000

We will prepare a complete statement of cash flows in the next section.