WHAT DOES IT MEAN TO HAVE A CASH FLOW?
As the heart is the body’s engine room that supplies life-sustaining blood for the body to be effective, cash flow is the lifeblood of any business to work.
Let me tell you a brief story
In the south-central part of the United States of America, there’s a lady called Lily. Lily makes a living running Lily fragrances, Lily fragrance is a business that sells varieties of perfume oil. Lily buys her perfume in bulk from a company (at this stage, money flows out of the business to the suppliers) and sells it to her customers (the money comes into the business). At the end of the month, she pays her employees or utility bills (money flows out). The list can go on. Here, we see that cash flow is essential for the survival of her business and her finances.
Having cash on hand ensures you pay your employees, creditors on time, and also keeps the business afloat.
Do you want to know what it means to have a cash flow?
If yes, follow me as I take you through this journey.
WHAT IS CASH FLOW?
Cash flow refers to the movement of cash into or out of an account, a business, or an investment. It gives a snapshot of the amount coming into the business and the amount flowing out of the business.
When cash inflow exceeds outflow, we consider this to be a sign of good financial health.
Cash flow could be positive or negative. Positive cash flow shows there is more money moving into the business than out of it. Negative cash flow shows there is less money coming into the business at the end of a specific time. It is calculated by subtracting the amount of money kept in the business at the beginning (opening balance) from the amount of money at the end of a specific moment or time (closing balance). If the difference gotten is positive it means there is more money at the end of that time (which could be a quarter or a year), if the difference is negative it means there is less money at the end of the period when compared to that at the beginning (opening balance).
BENEFITS OF A POSITIVE CASH FLOW
- You get prepared for any unpredictable condition; having access to cash means that if clients don’t pay their invoice in time, there is a problem with equipment, or when there is a new policy given out by the government, your business will survive.
- Pay your bills; Positive cash flow ensures the business runs, employees, suppliers, and creditors are being paid.
- You Invest; when there is a positive cash flow, businesses will invest at any point in time.
HOW WOULD YOU ANALYZE YOUR CASH FLOW?
To know how money goes in and out of a business account or investment, you need to prepare a CASH FLOW STATEMENT.
WHAT IS A CASH FLOW STATEMENT?
A cash flow statement summarizes a business’s cash inflows and outflows over a specific time.
The cash flow statement is of three types.
- Operating cash flow: the cash generated from the day-to-day operations of a business. It is used to determine if a company can generate a positive cash flow to grow and maintain the business. E.g. a business-like Lily’s fragrance brings in cash by selling perfumes and sends out cash by paying employees and suppliers.
- Investing cash flow; This refers to cash received or spent through investing activities. e.g. the purchasing or selling of assets that will help grow the business.
- Financing cash flow; is the cash used in financing the company. This cash could be gotten from creditors or investors, which is used to pay equity, dividends, and debts.
If a business becomes short on cash, it cannot pay its obligation and experience what we call a ‘Cash flow crunch’. To avoid this, businesses and individuals need to manage their cash flow and set aside emergency reserves to cash in any unexpected situation.