Why Cash Flow Analysis Is Important for Your Business
By Accounting Resources
May 03, 2022
Cash flow analysis in an integral tool to help business owners understand how much cash their business generated or spent during a specific accounting period. Understanding cash sources and where cash is going is essential for maintaining a financially sustainable business.
By regularly analyzing cash flow, business owners can better manage operating costs, understand the impact of debt, and get insights into potential areas to grow the business. A business that is low on cash may not be able to make required payments and may need to obtain financing, cut costs, or find ways to increase income.
Cash Flow Statement
The statement of cash flows illustrates a Company’s cash inflow and outflow. An example of cash inflow is the money received from customers who purchased your products. Cash outflow includes payment of inventory, rent, and salaries.
Operating cash flow |
Refers to cash inflow and outflow generated through normal business operations. This is basically how the cash flows through the daily operations of the business. | |
Investing cash flow |
Refers to cash inflow and outflow generated through investment activities the business undertakes. For example, if a Company had had an investment that returned a $10,000 gain from the stock Market, there would be a $10,000 source of funds from Investing activities. |
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Financing cash flow |
Refers to cash inflow and outflow as a result of activities such as issuing stocks, adding debt or payment of debts. Occurs infrequently.
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Cash Flow Analysis
A company’s cash flow statement displays the net cash provided by operating activities. The statement of cash flows is computed in three steps and displayed in three sections. Federal Accounting Standards Board (FASB) Statement No. 95 specifies a format that highlights cash flows from operating, investing, and financing activities
1. Cash flow from operations
The operating costs are included. This section reveals how much cash is required for the business to operate on a normal, day-to-day basis.
It may include:
- supplier payments
- payroll
- inventory management, etc.
2. Cash flow from investments
Understanding where the business has invested can help business owners strategically allocate resources.
Cash flow from investments may include:
- revenue generated from selling and purchasing stocks and bonds
- acquisitions, etc.
3. Cash flow from financing
Cash flow from financing does not occur as frequently as the other two but provides valuable insight into assets and liabilities.
Cash flow from financing can include:
- issuing debt
- payment of loans
- issuing stock
- purchasing back stock
The Bottom Line
If a company’s cash generation from operations is positive, it’s a strong indicator that the company is in a good position to pay employees, avoid excessive borrowing, expand its business, or survive hard times. Regular cash flow analysis by Management can help prevent cash flow problems and ensure the health of the business. Cash flow analysis can be a key tool to understanding where your cash is coming from.
If you’d like to better understand your organization’s cash flow, we can help. Contact us to schedule a time to discuss your goals.
