Cash Flow

Cash Flow: Types, Importance, Calculation, and Cash Flow Statement Cash profit left after deducting operating expenses and any debt service payments.

What Is Cash Flow?

As the name suggests, cash flow simply means the movement of cash in and out of a business. It is the net amount of ‘cash’ and cash equivalents that is transferred to the company and out of the company. The cash that a company receives is called cash inflow and the cash that the company spends is called cash outflow. 

Cash inflow is considered as transactions that bring cash to the company such as revenue generated from sales, income generated from interest, investments, royalties and even the sale made on credit, the revenue for which will be received at a later date. 

On the other hand, cash outflow includes debt payment to banks, payment as interest, payments made to suppliers, salary to employees, wages to workers, money spent to purchase assets and taxes.

Why Is Cash Flow Important to a Business?

Monitoring the cash flow is an absolute requirement for every business, whether small or large. It determines the cash inflows and outflows in a year and compares them against each other to determine the optimum level of cash or working capital needed in the company. It also helps the company in planning short term and long term goals. Cash flow also helps in knowing exactly where the cash is spent. 

What Are the Types of Cash Flow?

There are three types of cash flow namely operating, investing and financing. Let us take a more detailed look at these:‍

• Operating cash flow: This is the cash activity that determines the net income. It looks at cash inflows and outflows from a company’s core work like sales and manufacturing. For example, cash generated from selling goods/products is revenue while cash spent on merchandise is an expense.
• Investing cash flow: This is the cash activity related to noncurrent assets such as cash received from selling a land and cash paid as an investment to another company. 
• Financing cash flow: This is the cash activity related to noncurrent liabilities and owner’s equity such as dividend payments, stock sales and repurchase and the principal amount on a long term debt.

What Is Net Cash Flow?

Net cash flow means the amount of cash that the company produced or lost in a given period or in one financial year. When the amount of cash spent is higher than the amount of cash gained it is called a negative cash flow. On the contrary, if the amount of cash gained is higher than the amount of cash spent, it is called positive cash flow. 

Net cash flow is a metric used by companies to determine whether the company has made enough money in the year to cover all its expenses and obligations. Having a negative cash flow does not necessarily mean that the company is going into losses but simply means that it needs to bring in more cash to cover all the expenses. 

How Is Net Cash Flow Calculated?

To calculate the net cash flow, follow the given formula:‍

Net cash flow = Initial cash balance + (cash inflow from operations – cash outflows from operations) + (cash inflows from investing activities – cash outflows from investing activities) + (cash inflows from financing activities – cash outflows from financing activities)

OR‍

Net cash flow = Cash from operating activities + cash from investing activities + cash from financing activities

OR‍

Net cash flow = Total cash inflows - Total cash outflows

Let us take an example:‍

Suppose a company named ABC Ltd. wants to calculate their net cash flow for the financial year 2022-23. The company reported $20,000 as the operating cash balance. It also earned $40,000 from operating activities, - $20,000 from investing activities and $10,000 from financing activities. Here:

Net cash flow from operating activities = $40,000

Net cash flow from investing activities =  - $20,000

Net cash flow from financing activities = $10,000

Net cash flow = 40,000 + (-20,000) + 10,000 

Net cash flow = 30,000

What Is a Cash Flow Statement?

A cash flow statement (CFS) is a financial document that determines the cash movement of cash and cash equivalents (CCE) in a company. CFS measures the amount of cash the company generates or loses in a given period. It tells financial analysts how well the company is managing the cash inflows and outflows and whether it is able to pay off its expenses and debt obligations with the cash inflow. Like the balance sheet and the income statement, the cash flow statement is as important. 

Conclusion

Cash flow is the money that goes in and out of a business. It is important to keep a track of the cash flow as it will help a business understand how much they are earning and how much they are spending. It determines whether the business has a positive cash flow or a negative cash flow. Whichever the case be, it will ultimately provide insight into the company’s future and profitability.