Cash Flow

3.7

cash flow

money that flows in and out of a business over a given period

working capital

the money that a business has available for its operational activities and to met its short term obligations

net cash flow

the difference between cash outflow and cash inflow

working capital cycle

the time lag between a firm paying for its operational and production costs and actually receiving the cash from sales

profit is not cash?

• Profit shows revenue; cash is actual money available in business at given time

• Profit is based on accounting rules, not necessarily timing of cash movement 

liquidity

how much cash a business has that is readily availake, or the level of ease with which the business can sell an asset and concert this into cash without losing significant value

cash flow forecasting

the prediction of cash coming in and moving out of a business over a given time period

purpose of cash flow forecasting

• help avoid liquidity problems (forecast and prepare)

• prepare for financial obligations and unexpected costs

• financial management and decision-making

positive cash flow

cash inflow is greater than cash outflow

negative cash flow

cash outflow is greater than cash inflow

internal causes of cash flow problems

“mismanagement of working capital”

• poor cash flow management

• poor credit

• high expenses and excessive inventory

• too much credit given to the customer

• etc.

external causes of cash flow problems

• seasonal demand (fluctuating revenue)

• high interest rates

• customer insolvency (customers not being able to pay credits)

• inflation of CoP

• etc.

closing balance

the amount of cash at the close of a trading period, usually at the end of the month

• opening balance + net cash flow

opening balance

the amount of cash at the beginning of a trading period, usually at the start of each month

• closing balance of the previous trading period

investment/capital expenditure as cash flow management mechanis,

capital expenditure is needed for long-term profitability (purchasing non-current assets that can used to produce goods and generate profit in the long-term; cash inflow in the future) + when done with useful, the non-current asset can be sold

two strategies for dealing with cash flow problems

• reduce cash outflows

• increase cash inflows

how to reduce cash outflows [8]

(cash flow problem management)

• improve trade credit from suppliers + pay on credit rather than cash

• offer discounts for customers paying early and in cash

• reduce the duration of credit for customers

• reduce delivery costs through bulk buying

• lease, rather than prucahse (or sell a non-current asset and lease it right after)

• lower the levels of stock/inventory to free up cash

  • don’t hold cash in the form of inventories!

• negotiate for longer trade credit preiods

• reduce costs such as rent

how to improve cash inflows [4]

(cash flow problem management)

• improve marketing mix for better brand awareness and sales

• increase selling prices if price inelastic demand (increase revenue)

• lower the prices if there’s a fierce competition (increase sales and revenue)

• improve product portfolio management by stocking more best-selling goods

how to acquire additional finance [3]

(cash flow management)

• use an overdraft/loan capital during negative cash flow or negative closing balances

• seek growth opportunities, such as M&A and partnerships for better access to finance

• sell non-current assets that are unused/obsolete

  • during extreme liquidity crisis, the business might have to sell the assets no matter how much they use it

cash flow statement

a financial report that shows where the cash came from and where it went over a certain period

purpose of cash flow statements [3]

• tracks liquidity

• identifies sources of cash

• helps plan out for future expenses or investments

structure of the cash flow statement

(different sources of cash)

• operating activities

  • cash from regular operations (customers, payments to suppliers, salaries)

• investing activities

  • cash from buying or selling assets (e.g. purchasing equipment, selling properties)

• financing activities

  • cash from funding the business (e.g. loans, share issues,dividends)

methods of preparing the cash flow statement

• direct

  • list down actual inflows and outflows

• indirect

  • start with net income and adjust for non-cash expenses (depreciation) or changes in receivables, payables, inventory

non-cash items

expenses that reduce profit but do not use cash

• ex) depreciation

some expenses increase profit, but do not bring cash in immediately