Revenue is vanity, profit is sanity, but cash is king. This iconic phrase coined by entrepreneur Alan Miltz is repeated again and again in the world of finance. Cash flow is one of the most important facets of business – the key to keeping it alive and thriving. Within this article, we’ll define cash flow and provide some handy tips for successfully managing it.
Cash flow definition
So, what is cash flow? Essentially, cash flow is the movement of funds in and out of your business. You need it to operate, pay employees, taxes and other expenses, and make purchases. Poor cash flow is one of the leading causes of business failure. If you’re constantly spending more than you’re bringing in, you’ll definitely have a cash flow problem.
The different types of cash flow are:
Operating cash flow: The money your business generates and spends on day-to-day operating activities.
Free cash flow: The money left over after your business pays its operating expenses and capital expenditures. You can calculate free cash flow using this simple formula.
Investing cash flow: The money your business generates and spends on long-term assets such as property and equipment.
Financing cash flow: The money that moves between the company and its owners, investors and creditors.
A positive cash flow indicates that a company’s liquid assets (assets that can be easily converted into cash) are increasing, while a negative cash flow indicates that a company’s liquid assets are decreasing. There are several ways to help boost cash flow.
Cash flow vs. profit
So, why is profit “sanity”? What makes cash flow more important than profit? In contrast to cash flow, profit, also referred to as net income, is the amount of money that remains after all expenses have been subtracted. A business can be highly profitable while having a poor cash flow. For example, you could experience a profit every month but all of your money is tied up so there’s no cash to do key things like pay employees. Therefore, cash flow is the more reliable of the two – both in determining the present state of your business and its growth.
Some of the advantages of positive cash flow are:
You have adequate cash in the bank to keep your business operational
Investors always look at your operating cash flow to determine the business’s potential
You’re less likely to need to take out large loans and get into bad debt
You’re able to ensure timely payments are made to your creditors, thus boosting your credit rating
It opens up opportunities for your business to expand and diversify
Top tips for managing cash flow
Practice good bookkeeping: Keeping on top of your accounts is vital as it will provide you with a comprehensive understanding of the financial transactions of your business.
Generate cash flow statements: Cash flows can be analysed using a cash flow statement, which lets you see where your cash has moved during a set period. This financial document measures how well your company manages its cash position to pay debts and fund operating expenses. You can create a cash flow statement using accounting software or spreadsheets. If you have an accountant, this is something they can take care of on your behalf.
Regularly analyse your cash flow statements: It’s all well and good creating a cash flow statement but you need to be able to interpret it to properly understand how money is moving through your business.
Cut back on spending: Overspending will affect your cash flow. Try cutting back on unnecessary costs to free up some money.
Accelerate accounts receivable: Another way of increasing your cash flow is by acquiring your money faster. This could be anything from invoices to deposits.
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