Understanding the Essential Features of Cash Flow Analysis


Any small business operator who lacks certitude about cash flow is hanging by a branch over the financial abyss. Adequate cash relieves pressure for meeting current obligations and implementing future expansion. Accurate anticipation of events doesn’t require a sweeping survey of the financial topography. Rather, analytical focus on a few key factors is all that’s required to be the architect of your cash flow success.

Elements of Cash Flow Analysis

Cash flow assessment begins with a report listing incoming cash from all sources – not only sales revenue but also separate lines for proceeds from selling company assets, borrowed funds, and capital infusions from company ownership. Don’t allow a fear of conquering financial statements turn into cash management mistakes. A cash flow statement is a sensible document that’s easy to understand. It reveals various groups of money inflow and outflow sources.

One section of a cash flow statement is operational activities, which shows money received from routine business operations. Simply take net income for a given period – such as the last calendar quarter – and add charges for depreciation and amortization that were calculated for tax purposes. Also add increases in accounts payable or subtract decreases. This accounts for expenses you haven’t paid or bills from past periods that were paid with cash income generated during the current period. Subtract increases in accounts receivable, which is income this period that you haven’t collected. Or add decreases in accounts receivable, which is money from prior period sales you collected in the current period.

The next group is investment activities. This section subtracts money distributed to owners, whether dividends or other types of capital withdrawals. Owner capital contributions are added. Purchases of new equipment and property are also listed in the investment activities section. Lastly, a financing activities section shows funds received from new borrowing or cash used to repay loans.

Free Cash Flow

The key component of cash flow analysis is the presence or absence of free cash flow. This is the amount of cash the company has on hand after operational activities and investment activities. The figure presents a better reflection of financial health than after-tax income. It eliminates non-cash tax items like depreciation and includes capital purchases for new property and equipment.

Examining free cash flow from several recent calendar quarters presents a trend. Consistently negative free cash flow indicates excessive spending – an unsustainable path of insufficient funds that must be altered. Conversely, positive free cash flow is a vital measure of financial health.

Create a Cash Flow Budget

Your cash flow analysis is a springboard to developing a cash flow budget. Future profits are predicted that require cash to cover expenses before collecting accounts receivable. Perhaps new equipment is needed to fulfill sales orders. Cash flow statements of the past demonstrate the correlation between earnings trends and other categories of cash inflow and outflow.

Unless you’re a financial wiz, you’ll need an accounting professional to devise a cash flow projection using the ratios and trends of the recent past. Ongoing monitoring of whether you’re on cash track is, however, entirely your responsibility. When free cash flow lags, moving without delay to borrow or invest new money is crucial to supporting success. This action necessitates familiarity with the cash flow statement.


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