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Your top cash flow questions answered

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Last editedNov 20204 min read

What is cash flow?

Cash flow is the rate at which money passes into, through and out of your business over a given time period. It's often considered the "life blood" of a business. As cash comes in from customers buying goods or services, money goes out to cover expenses, such as rent, materials, loan payments and payroll. A healthy cash flow means working capital is available to allow a business to operate.

What is a cash flow statement?

A cash flow statement is a document showing inflows and outflows of money, calculating how much working capital is available to a business over a specific period. This details operating cash flow, which includes costs and income from day-to-day business activity. But it also covers investing cash flow – for example, whether money has been spent on equipment or income received from shares, a loan or the sale of assets. A statement also outlines financing cash flow, including payments made on long-term debt, leasing costs or dividends or the amount received from the issue of equities or bonds.

What is a cash flow analysis?

A cash flow analysis determines the true value of a company, assessing how and where it generates money, plus aspects of the operation that may be loss-making or damaging to its long-term success.

When should you do a cash flow analysis?

Experts recommend undertaking a cash flow analysis every month to keep on top of a firm’s performance. Accountants advise business owners keep a rolling cash flow analysis, clearly outlining all income and expenditure. A savvy business owner will have an idea of what to expect from cash flow over at least the next 12 months. Investing in accounting software that creates regular cash flow forecasts can give easy and accurate results.

What should you look for in your cash flow analysis?

Periods of negative cash. The adage says profit is vanity, but cash is king. Even if a business is profitable, it may not have cash in the bank, but cash flow analysis will reveal what is really going on. Sales revenue, money owed by customers, company expenses, borrowing costs and income from stocks, loans and investments are all clearly outlined. These figures tell the truth about the genuine health of an enterprise.

What is a discounted cash flow analysis?

A discounted cash flow analysis uses projected cash flow to weigh up how much to spend on something now to get a desired return in the future. For example, an expensive piece of equipment, a piece of land or even another business. This involves looking at the timeframe concerned, the projected cash flow each year and the discount rate (how much you would earn from the money spent if it were invested in an account with equal risk). Finally, the terminal value is calculated – the continued growth rate beyond the period analysed. Taken together, an entrepreneur can decide whether the investment is a good idea for the long term.

What is a cash flow forecast?

A cash flow forecast predicts the money expected to come in and out of a business based on what has occurred in the past. This means using known figures to estimate projected sales figures, plus what your business is likely to owe. It assumes the most likely future scenario for your business using current information. Typically, business owners look ahead 12 months, which allows them to make plans in an informed way, as well as enabling them to spot and head off any potential problems.

What does a cash flow forecast do?

A cash flow forecast identifies shortfalls in cash before they occur, so a business owner can bridge any money gap before crisis hits. Ideally, a business should undertake monthly forecasts, plus one for the entire year ahead. Establish KPIs (key performance indicators) - whether it’s revenue targets per day or week, or increasing the average customer spend - then check they’re being met.

What is cash flow projection?

A cash flow projection is a cash flow forecast that uses assumed alternative outcomes for the business - both best and worst case scenarios, as well as possible unexpected costs. This might be needing to buy emergency stock, an unforeseen increase in the price of materials or legislation changes increasing payroll costs. These are factored into the equation to see how they may impact on money available in the business.

What does cash flow management entail?

Cash flow management involves monitoring the cash receipts and income of a business against the money it pays out to suppliers and staff as well as on day-to-day expenses. Effective cash flow management will reveal any pending cash shortages and allow a business owner to make provision - whether taking out a loan or extending an overdraft - to avoid damaging shortfalls.

What is cash flow investment?

Cash flow investment calculates money coming into or leaving the business that is linked to investment-related activities. For example, this could be sums expended on a particularly expensive piece of equipment or new software package. Conversely, funds may be flowing into the company from investment in shares or due to a valuable asset being sold.

What is a cash flow margin?

A cash flow margin informs a business owner if they’re being paid on time by customers. This calculation divides a company’s cash flow from operations by its total annual revenues. The resulting figure represents whether you have a high ratio of earnings – you’re regularly and reliably being paid by customers – or a low ratio – debtor days are longer and putting your business at risk.

What are cash flow activities?

Cash flow activities are elements on a cash flow statement. There are three types of cash flow activities typically seen - operating cash flow, investing cash flow and financing cash flow.

What will decrease cash flow?

  • Late paying customers

  • Poor cash management

  • Falling sales

  • Increased costs of staff, stock or materials

Improving payment systems by automating invoices and payments received, as well as investing in software helps manage cash flow can help minimise firms’ exposure.

Will depreciation affect cash flow?

Depreciation does not affect cash flow. Material assets in a business, such as machinery and equipment, wear out over time. They depreciate in value, but doesn’t mean that cash is flowing out of your business. However, when an item has to be replaced, a cost will be incurred, which will have a direct effect on cash flow at that point.

What will increase cash flow from assets?

  • Decrease your payment terms with your customers

  • Improve invoice and payment processing

  • Raise the price of goods or services

  • Cut expenditure on materials or staff

  • Increase payment terms with your suppliers

  • Move to lease financing for expensive fixed assets rather than buying them outright

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