Elementary Guide To Understanding States Of Business Cash Flow

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If you are starting your business, you will have heard a lot about business cash flow. This is a crucial issue for the operation and success of any business, and it is advisable to request small business financing if you do not have enough cash flow to begin.

We will cover why it is so important and what you can do to optimize your cash flow.

What is Cash Flow?

Cash flow refers to the transfer of money that occurs in a company, and it is how money is generated and used during the company’s operation. Thus, there is a cycle in which money comes out of the company, which is the cost of producing goods and services delivered to customers, and money is obtained from them to generate more wealth.

Role of Cash Flow into Business Success

In companies, the generation of cash is crucial since it allows them to operate continuously, meet their obligations, and invest for growth. So for a business to be successful, it is critical that it works correctly and continues to generate cash. In this way, you have to do a good follow-up of administration for cash flow for the healthy and sustained growth of the organization.

The information about the cash flow obtained from the financial reports is very relevant for organizations and financial entities that could give you a loan. In particular, the cash flow report is of great help for planning and budgeting without losing sight of the analysis and measurement of indicators that allow having a more exact vision of what the company requires to fulfill the previously acquired commitments.

When used efficiently and in coordination with the rest of the financial statements, the cash flow statement provides valuable information that allows managers to evaluate changes in a company’s assets, economic structure, and ability to comply with your commitments and deal with eventualities. In the same way, it is relevant to know the capacity of the company to generate cash.

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Goals of the Cash Flow

Among the essential cash flow objectives are the following:

  • Offer timely information to management to make decisions that help the operations of the company.
  • Provide information about the items and or activities in which the available cash has been spent.
  • Report past cash flows to generate forecasts.
  • Determine the ability of the company to meet its obligations with third parties and with shareholders.
  • Make informed decisions about short-term investments when there is a surplus of cash available.

The cash flow purpose is to present information on the cash management that the company has; it is obtained and used by the administration in a given period, and thus, having a report on the financial situation to know and evaluate the liquidity or solvency of the company.

Importance of Taking Care of Cash Flow

two coworkers high fiving

  • Cash flow signals the status of variations, movements, and their equivalents in a given period.
  • It can be used for the operational, investment, and financing activities of the company. If there is not enough cash for this, you can opt for small business financing.
  • You can use money as part of the business’s daily activities to pay bank loans, pay dividends, issue or purchase shares, etc.
  • Maintaining a healthy cash flow will allow you to make provisions to avoid emergency solutions such as acquiring unplanned financing to solve a pressing situation.
  • Managing the company with the forecast of a cash flow done conscientiously and with accurate information up to date will undoubtedly increase the profitability you are looking for for your company.

Related: How You Can Be Financially Independent And Retire Early (FIRE)

Types of Cash Flows

1. Operational

It includes all those income and expenses that come from the company’s activity. They are the primary source of income for the company since it accounts for the revenue from the sale of goods and services.

2. Investment

This measures the variation in cash inflows and outflows from investments made in financial instruments. They are usually assets with short-term maturity, and expenses associated with investments are also accounted for.

3. Financing 

It is the variation of capital that a particular project has. In this type of cash flow, the losses of goods and raw materials, the capital endowment for personnel expenses, among other components, are accounted for.

Calculating Cash Flow According to Cash Flow Type: How to Do It

The operational type: 

To calculate the operating cash flow, you must record the following income and expenses:

  1. All the revenue obtained from sales is added to those services you offer, such as transport or delivery to customers directly.
  2. Subsidies or aid packages.
  3. Purchase of raw materials or inventory.
  4. Employee payroll.
  5. Payments of taxes, fees, or licenses.

Investment type: 

In this case, you should forecast the estimated income for the project and the disbursement that must be made to start it up.

Also, these are payments whose origin is the acquisition of non-current assets, other assets not included in cash, and other equivalent liquid assets. That is, those such as intangible assets, materials, real estate investments, or financial investments. 

Financing type

To know the cash flow of financing your company, you will have to assess the following aspects:

-The loss of goods or raw materials because they have not been delivered, broke in the warehouse, in transport, or failures of the production process.

-Investment of capital to the personnel in charge of working in your company, for example in areas of transport, customer service and other people who allow the company to function.

-Losses generated by failed business with clients, business trips in which no transaction has been closed, etc.

-The machinery you use to produce your products.

-The losses you suffer from intangible and material properties.

-Loans received or any small business financing.

Difference Between Cash Flow and Revenue

office having a meeting with sticky notes on the board

Revenue is that profit that is obtained when carrying out a transaction. For example, if you buy a house, remodel it a bit, and wait for the real estate business to grow and then sell it. Maybe you will earn a lot of money with that, but you will no longer have another income after that. After this, you will have to find another business to be able to generate money.

The cash flow has income all the time, constantly. Another option would be to remodel the house and then rent it, in this way you will be generating regular profits. After this, you can look for more businesses that give you money continuously.

Cash Flow is Essential for Business Growth

The idea is precisely to generate a consistent income source that allows you to continue generating profits. Monitoring the activity of your cash flow will also help you notice where you are failing and what you should improve. It will make you look like a much more professional and consolidated business.

Now that you know everything about cash flow, you can plan your strategy to consolidate this business area without leaving it unattended.

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