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You may have heard the old saying: “Turnover is vanity, profit is sanity, but cash is reality!

Cash flow is critical for any business. Let’s unpack what cash flow is and why it is important.

What is cash flow?

Cash flow refers to the relationship between the amount of cash coming into the business, and the amount of cash going out.

If more cash is coming in than going out, the business is cash positive. That is a good thing. If more cash is going out than coming in, the business is cash negative. That is a bad thing.

Think about it. If your business is cash positive you can pay suppliers and your employees. If your business is cash negative, there is no money to pay for anything. You may have to take out a loan to meet your commitments. Or you may have to put more of your own money into the business.

Key concepts

Cash flow is the movement of money in and out of your business.
The cash flow statement is the financial statement that reports on your business’s sources and use of cash over a period of time.

Sources of cash

A business receives cash from three main sources:

  • Operations
  • Investing
  • Financing

Operational cash inflow comes from selling goods and services. Operational cash outflow comes from paying for utilities, raw materials, and staff salaries.

Investment cash flow can arise from interest on investments, or royalty payments.

Financing cash flow can arise from selling goods on credit or hire purchase and receiving the money later.

The trick of managing cash flow is to get the timing right. In a perfect world your business receives a large cash payment [inflow] just before it must make a smaller payment [outflow]. It does not always work out like this. Sometimes you may have to go into overdraft on your bank account. This is a short-term variable loan facility provided by your bank.

Positive cash flow means that a company’s cash [liquid assets] are increasing. A company with positive cash flow can pay suppliers, reinvest in the business, pay dividends to shareholders, pay expenses, and build up a savings buffer against future financial challenges. Strong positive cash flow means that your company can make profitable investments. It is also better positioned should there be a downturn in the economy.

Types of cash flow

Cash flow from Operations
Cash flow from operations refers to money flows arising directly from the production and sale of goods from ordinary operations. It indicates whether a company has enough funds coming in to pay operating expenses.

A sustainable business must have more operating cash inflows than cash outflows to be financially viable.

Operating cash flow is calculated by taking the amount cash received from sales and subtracting the operating expenses that were paid in cash for the period. Operating cash flow is recorded in the cash flow statement.

Operating cash flow indicates whether a company can generate enough cash flow to maintain and expand operations, but it can also indicate when a company may need external financing for capital expansion.

Cash flow from Investing
Cash flow from investing refers to cash generated or spent as a result of various investment activities in a specific period. Investing activities include purchase of speculative assets, investments in shares, or the sale of securities or assets.

Negative cash flow from investing activities can result in significant amounts of cash being invested in the long-term health of the company, such as new product development or research and development. This is good because it supports future sustainability of the business. So negative cash flow is not always bad.

Cash flow from Financing
Cash flows from financing refers to the net flows of cash used to fund the company and its capital. These financing activities include transactions involving issuing debt, equity [more shares in the business], and paying dividends.

Cash flow vs profit

Cash flow is not the same as profit. `These terms are often confused.
Cash flow is the money that goes in and out of a business, as we have pointed out above. Profit, on the other hand, is a measure of how much money a business makes overall. Profit is what is left after subtracting a business’s expenses from its revenues.

Cash flow

How to improve your business’s cash flow

Here are a few standard ways in which you can improve the cash flow of your business.

  1. Encourage your customers to pay early. Offer discounts for early payment. Ak for a deposit on large orders.
  2. Manage stock and suppliers. Replace slow moving stock. Sell off obsolete stock. Don’t tie up large amounts of cash in raw materials; ask your suppliers to supply frequently and in small quantities. Negotiate longer time to pay for purchases.
  3. Sell unused assets. Invest surplus cash even if it only in a call account.

Cash flow is important because it enables you to meet your existing financial obligations as well as plan for the future. By balancing your inflows and outflows of cash, you can ensure the smooth day-to-day running of your business, at the same time as building sufficient reserves to weather peaks and troughs in sales, late invoice payments, or unexpected expenses.


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