Operating Sources of Cash - dummies

By Kenneth Boyd, Lita Epstein, Mark P. Holtzman, Frimette Kass-Shraibman, Maire Loughran, Vijay S. Sampath, John A. Tracy, Tage C. Tracy, Jill Gilbert Welytok

Generally accepted accounting principles (GAAP) has a guide to what shows up in the operating section of a statement of cash flows: The operating section contains transactions not listed as investing or financing transactions. Here are examples of operating sources of cash:

  • Cash receipts from the sale of goods or services: This source is the cash that customers pay the company when the sale occurs. When the company collects cash from accounts receivable, that cash inflow is also from operations.

    For example, you go into Target and buy a new DVD player for $65. You fork over the cost of the purchase plus sales tax in cash. Target records this receipt as a source of cash.

    On the flip side, let’s say that on October 12, you go into an appliance warehouse to buy a new washer and dryer. The warehouse is holding a “90 days same as cash” promotion, which means that as long as you cough up the cash for the washer and dryer within 90 days, you pay no interest.

    On October 12, the appliance warehouse has no cash source from you, and it won’t have that source until you pay for your purchase on or before January 12. The appliance warehouse can’t record the sale as a source of cash until it receives your payment.

  • Trading portfolio sales: Trading securities are assets a business purchases to make a profit in the short term. The intention is to trade the securities (buy and sell them). Assume a business has spare cash lying around that it doesn’t need access to in the immediate future.

    Rather than leaving the cash in the bank earning little or no interest, the company buys highly liquid (easily convertible to cash) stocks, bonds, or loans.

    The business tries to invest in something that won’t drop in value during the holding period. Then, when the company sells the investment, the cash it receives goes on the statement of cash flows in the operating section rather than investing. The key here for operating section placement is that the investment is short term.

  • Interest and dividends: If the company makes loans to other businesses or individuals, any interest income it receives on those loans goes in the operating section. An example is a loan to a shareholder who is also an employee and needs cash beyond what she’s receiving in her paycheck. This situation happens often in a closely held corporation.

    Also, some companies make loans to key vendors needing a short-term infusion of cash to keep their doors open. A company takes this step if it’s in the company’s best interest to keep an essential vendor in business.

    After all, if you like to buy your widgets from Joe’s Widget Shop and Joe goes out of business, you’ll have to find another widget vendor, and maybe you won’t like working with that vendor (or paying its prices) as much as you liked working with Joe.

    As reported on the income statement, dividends are income paid to shareholders based on their proportional ownership of the corporation. For example, ABC Corp. owns 2,000 shares of XYZ, Inc. stock. ABC receives dividends from XYZ at $2 per share totaling $4,000 ($2 x 2,000 shares); this amount is posted to the operating section as a source of cash.