Definition

A cash flow statement (the “statement of cash flows” under IFRS) is one of the three primary financial statements required of UK companies. It reconciles opening and closing cash balances by categorising all cash movements into operating activities, investing activities and financing activities. Unlike the profit and loss account, which is prepared on the accruals basis, the cash flow statement is purely cash-based, making it a critical tool for assessing liquidity and solvency. UK requirements are set out in the Companies Act 2006, FRS 102 (Section 7) and IAS 7 under IFRS.

Why this matters for Accounting Principles & Procedures

  • Level 1 knowledge: you must identify the three sections of a cash flow statement and give examples of items in each.
  • A company can be profitable on the accruals basis but run out of cash; understanding this distinction is fundamental to advising clients on financial health.
  • Cash flow from operations is a key test of whether a property company's rental income is actually being collected rather than merely recognised as a debtor.
  • Investing activities show capital expenditure on property; surveyors advising on capex programmes must understand how these flows affect a client's liquidity.
  • Financing activities reveal borrowing and debt repayment levels, informing covenant monitoring and refinancing advice.

Key principles

Operating activities

This section shows cash generated from core trading operations. It typically starts with operating profit and adjusts for non-cash items (depreciation, amortisation), movements in working capital (debtors, creditors, WIP) and tax paid. A positive and growing operating cash flow signals a healthy, self-sustaining business. Consistent profit accompanied by negative operating cash flow may indicate over-accruing of income or poor debt collection.

Investing activities

This section captures cash flows relating to acquisition and disposal of long-term assets. For a property company, this includes purchases of investment property, disposal proceeds and refurbishment expenditure. Capital expenditure on property appears as a cash outflow even though the cost is capitalised on the balance sheet. Understanding investing cash flows is important when assessing a client's growth strategy and whether its capex programme is financially sustainable.

Financing activities and free cash flow

Financing activities cover cash flows between the business and its providers of debt and equity: new loans, repayments, share issuances and dividends. A business consistently funding operating shortfalls through new borrowing is building up financial fragility. Free cash flow, defined as operating cash flow minus capital expenditure, measures how much cash the business generates after maintaining and growing its asset base and is widely used by analysts and lenders to assess dividend capacity and debt reduction ability.

Relevant RICS guidance and legislation

  • Companies Act 2006, Part 15 — requires qualifying UK companies to include a cash flow statement in their annual accounts.
  • FRS 102, Section 7 (Statement of Cash Flows) (Financial Reporting Council) — sets out presentation requirements for non-listed UK entities.
  • IAS 7 Statement of Cash Flows (IFRS) — the equivalent standard for UK-listed companies.
  • RICS Rules of Conduct (effective 2 February 2022) — Rule 2 (competence) requires members advising on property transactions and occupier strategies to be able to interpret a client's cash flow position.

Ethics and Rules of Conduct angle

Rule 1 of the RICS Rules of Conduct (honesty and integrity) requires members to give accurate and straightforward advice. A surveyor who recommends a major property acquisition or lease commitment without considering the client's cash flow position risks providing advice that is not in the client's best interests. If a client's operating cash flow is insufficient to service additional debt or new lease obligations, that must be disclosed as a material risk in any written advice, regardless of whether the client wants to hear it.

APC-style Q&As

Q (Level 1)What are the three sections of a cash flow statement?

Operating activities (cash generated from day-to-day trading), investing activities (cash flows relating to the purchase and disposal of long-term assets) and financing activities (cash flows between the business and its providers of finance, including loans, equity and dividends).

Q (Level 1)Why can a profitable business still run into cash flow problems?

Because profit is calculated on the accruals basis, recognising income when earned regardless of when cash is received. A business may have large outstanding debtors or have paid significant upfront costs that have been capitalised; in both cases reported profit is positive but the cash position is strained. This is why the cash flow statement is essential alongside the profit and loss account.

Q (Level 2)A property investment client's cash flow statement shows strong operating cash flow but large negative investing cash flows each year. How would you interpret this?

Strong operating cash flow means the portfolio is generating healthy rental receipts. Large negative investing cash flows indicate active capital deployment into acquisitions or capex. The key question is whether operating cash flow, combined with financing, is sufficient to fund the programme sustainably. I would examine the financing section to understand how acquisitions are funded and check the balance sheet for debt maturity and covenant headroom.

Q (Level 2)What is free cash flow and why is it useful?

Free cash flow is typically defined as operating cash flow minus capital expenditure. It represents the cash generated after maintaining and growing the asset base, and is available to pay down debt, fund dividends or pursue acquisitions. For a property company, free cash flow is a useful measure of whether the dividend is genuinely affordable from operations rather than being funded by asset disposals or new borrowing.

Q (Level 3)You are advising a retail tenant on whether to take a new 10-year lease at £120,000 per annum. Their accounts show an operating profit of £200,000 but negative operating cash flow of £60,000. How does this affect your advice?

(example) The negative operating cash flow is a serious concern: despite reported profit, the business is not converting earnings into cash, possibly due to poor debtor collection. A 10-year commitment at £120,000 per annum adds fixed cost that the business may struggle to fund. Under IFRS 16 the lease would create a right-of-use asset and lease liability, potentially affecting covenant compliance. I would advise the client to address the cash flow shortfall first, recommend financial advice, and negotiate a rent-free period and break clause.