What are Investing Activities?
Definition: Investing activities refer to the part of the cash flow statement where the accountant records the inflow and outflow of cash related to acquisition or disposal of long-term assets. Oftentimes, businesses buy and sell assets to ensure that the core activities run smoothly.
Usually, the cash flow statement has three sections, the financing section, the operating section, and the investing activities section. Each section records certain activities pertaining to the company’s operations. The operating section records activities related to the day-to-day activities like servicing of equipment, marketing expenses and so on. In short, these activities directly affect the functioning of the business.
That said, the financing activities section of the statement of cash flows records the transactions that affect the business’ equity and liabilities in the long-term. In particular, the transactions involve funds from creditors and investors whose aim is to finance business expansions or internal operations. Notably, all these activities, financing, operating and investing, are recorded within a given accounting period.
The investing activities help the business owner or the management to determine the net investment loss or gain in the given accounting period. If the cash outflow under the investing activities section is bigger than cash inflow during a particular accounting period, then there was an investment loss.
Types of Investing Activities Examples
In the course of their operations, businesses invest in both short-term and long-term assets to ensure efficiency. Increased investment in the assets decreases the cash in the company’s possession, if the company pays for the assets in cash. The company can also pay for the assets using cash equivalents like commercial paper and securities. Clearly, the acquisition of the assets requires cash outflow. This is why accountants report the investments in the cash flow statements as negative amounts.
What happens when the business sells the investments? In this case, there is an inflow of cash or cash equivalents. Therefore, the accountant shall report the transaction as positive amounts in the investing activities section of the cash flow statement. Let us see an example.
Example 1
Company Theta produces mango juice for the local market in Detroit. During the 2018/19 financial year, the company buys a new power generator at $70,000 in cash. In the same financial year, Company Theta sold equipment $55,000.
From the example, the $70,000 spent on the power generator is a negative amount while the $55,000 is a positive amount. Therefore, the net cash flow from investing activities during the financial year is -$15,000.
Example 2
Company Theta buys four Lorries for distribution of the fruit juice to different convenience stores. Each lorry costs $65,000 in cash. Therefore, the company needs to pay $260,000 in total, if it were pay cash. However, the company decides to buy the Lorries on credit with a $13,000 monthly installment.
Here, it is clear that the cash outflow happens in bits of $13,000 per month. Therefore, the accountant will record $156,000 (i.e. 13,000 x 12) at the end of the financial year as the total cash outflow for investing activities.
In particular, the investing activities section of the cash flow statement has four major accounting transactions. The first one is the purchase of investments. Anytime a company acquires investments in cash or cash equivalents, this is reported as a negative amount in the cash flow statement. This is because the company is paying out the cash.
The second transaction that falls under investing activities is the cash from disposal of investments. Typically, disposal of an investment like production equipment results in cash flowing into the company’s account. This is true even when the business sales the investment at a loss. Therefore, this transaction will read as a positive amount in the cash flow from investing activities.
Significance of Investing Activities
Investing activities show the management whether the company can grow or earn more revenue in future. If the investing activities result in a negative amount of cash flow, this tells the management that the largest share of investments are going to capital assets. As such, the management can expect the earnings of the company to grow in future.