“Our Income Statement shows that we are profitable, but how come our company is always strapped for cash? ” This is a common issue I get from managers and business owners alike. And I always tell them that the Cash Flow Statement is one spot to look for answers. This financial declaration is one of the reports mostly overlooked specifically by small business owners. Most of the time, they are not actually aware that this financial statement is one of the basic reports they should be getting from their accountants.
The Cash Flow Statement shows the actual cash generated by the company for a given period. It is mainly composed of three main categories:
Funds generated from or used in functions
Investments made by the company
Cash Flow from Operations
This category revolves around four activities:
Collections from customers
Payments to suppliers
Other operating cash outflows for example sales & marketing and administrative costs and interest payments
Cash taxes payments
A positive net cash flow from operations means that the company’s core company operations is able to sustain itself — the collections from customers are enough to cover the day-to-day requirements of the business.
A negative net income from operations means that the cash inflows from the company’s operations are not sufficient to cover the daily costs and expenses.
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This is quite expected to get companies who have just recently started procedures because efforts are still focused on sales and marketing to build customer bottom. But management should always work to enhance the net cash flow from operations to assure investors that management is effective within controlling the financials and procedures of the business.
Cash Flow from Trading Activities
This section usually shows the amount of cash spent by the company on capital expenditures, such as new manufacturing plant equipment or business expansions. It also includes other monetary purchases (such as money market funds) and acquisitions of other businesses.
There is a negative net cash flow from financing activities if the company put money into investments during the time period. It is good to see a company re-invest some of its profits back into the business to cover depreciation of its fixed property and/or to finance business growth.
Conversely, the net cash flow from financing activities is positive if the company liquidated or sold some or even all of its investments. This may sometimes be required to generate funds to augment the operational requirements of the business. Liquidating investments is better compared to borrowing funds from the bank or other creditors because the company will not have to pay passions.
Cash Flow from Financing Activities
This section shows the outside financing activities undertaken by the company. The cash inflows through financing activities pertain to extra capital from investors or through borrowings from the bank or other creditors.
The cash outflows from financing activities, on the other hand, result from repayments associated with bank loans and other borrowings and/or cash dividend payments given to investors.
Effective Cash Management
A big part of running a business is managing the funds. You should make sure that your company’s cash inflows are timely and enough to protect your cash outflows. Your company will be attractive to potential investors when they see that your over-all operations produce adequate free cash flow (FCF). Free cash flow shows that your company has the ability to pay debts, yield dividends and facilitate the growth from the business.
A regular analysis of the cash flow statement will enable you to determine the particular working capital required by your operations. You will also see if your operations are generating enough cash and if you have extra funds either to expand your business or in acquiring other purchases. You will also be timely prompted if you want to get additional funds either out of your investors or creditors.