The Three Main Business Activities Measured by Financial Statements
The four primary financial statements -- balance sheet, income statement, owners' equity statement and statement of cash flows -- provide an overview of a company's financial condition. They tell you where the money is coming from and where it is going, what the company owns and what it owes to others. Everything a company does falls into one of three categories of business activity: operations, financing and investment. The financial statements track these activities.
Operating activities are the core functions of a business. Every business exists to do something and that "something" is its operating activities. If you own, say, a grocery, your business exists to sell food and other products to consumers. If you have a law office, your business exists to provide legal advice and services. The areas of your business that provide support to those core functions -- human resources, payroll, janitorial and so on -- also count as operating activities. On the balance sheet, operating activities affect current assets, such as cash, accounts receivable and inventory, and current liabilities, such as accounts payable and wages payable. The revenue and expenses reported on the income statement also reflect operating activities.
A stable, established company is usually able to pay its day-to-day bills with the money generated by operations, but sometimes companies need additional money to expand their operations or to pay for capital projects, such as buildings or equipment upgrades. Companies can get this money two ways: by selling shares of ownership, known as equity financing, or by borrowing it, known as debt financing. In the financial statements, equity financing shows up in the owners' equity section of the balance sheet, as well as in the separate, more detailed statement of owners' equity. Debt financing shows up on the balance sheet as long-term liabilities.
Just as individuals do, companies make investments for the future. They invest in themselves by purchasing new equipment or acquiring other companies, and they invest in other companies for strategic reasons -- to establish partnerships or gain access to technology. Investing activities appear on the balance sheet as long-term assets, such as property, plants and equipment and as equity investments in other companies. Money made or lost on the sale of these assets appears as gains and losses on the income statement. Companies can, and do, trade in securities, such as stocks and bonds, for short-term profit. These are certainly investments, but financial statements treat these "passive" investments as operating activities. Marketable securities -- those held for shorter-term profit-turning purposes -- are current assets on the balance sheet.
The one place in the financial statements where these activities are clearly delineated is in the company's statement of cash flows, commonly called the cash flow statement. This statement tracks the flow of money into and out of the company and breaks it down into three streams: cash flow from operating activities, from financing activities and from investment activities.