What is cash flow?
Inflows and outflows: these are significant words that highlight today’s topic, which is cash flow. Inflows are the cash received, while outflows are the money spent. Hence, Cash flows refer to a cash net amount and cash equivalent going in and out of business. In fundamental terms, a company’s capability of producing positive cash flows dictates its value to shareholders. When we say positive cash flows, this includes maximizing long-term free cash flow or FCF. FCF is the money that a company produces from normal business operations minus all the expenses on capital expenditures.
Tell me more about cash flows.
Financial reporting is essential for every company because it will tell us about its liquidity, flexibility, and even its total financial performance. Financial reports should properly assess amounts, timing, cash flow uncertainty, origin, location, and more. We have mentioned that inflows are the cash received. This cash comes from sales as revenues. They may also be from interest income, investments, and licensing agreements. It may also be from licensing agreement and sell products on credit. They expect that they will receive the money owed later on. On the other hand, we also have outflows referring to the money spent and being spent. Simply, they are expenses.
What does a cash flow say about a company?
Let us first focus on what should happen if the cash flows are positive. Positive cash flows mean that the liquid asset continues to increase. Hence, the company is capable of paying its obligations. It can also repay shareholders, pay expenses, and even protect itself from financial challenges that can come in the future. It also means that it can fare better if a downturn happens and avoid paying more for financial challenges. If a company is financially flexible enough, it can grab more profitable investment opportunities. A company analyzes cash flows using a cash flow statement. It is a report containing the company’s sources and how it uses cash in a time frame.
The different categories
Now that we know what a cash flow means, we now dive deeper into its different categories:
- Cash flows from operations or CFO. This cash flow is also known as the operating cash flow. The money flow is directly related to the production and sales of goods that came from typical operations. It tells whether the company is capable of paying bills or operating expenses.
- Cash flows from investing or CFI. It reports the amount of money generated or spent from different investment-related activities from a specific time frame.
- Cash flows from financing or CFF. It shows cash net flows that companies use for funding and capital. The funding and capital that we talk about involve issuing debts, equity, and dividend payments.
What is a statement of cash flow?
The most crucial parts of a financial statement include:
- The balance sheet. It is like a snapshot of the assets and liabilities.
- Income statement. It describes a company’s profitability in a given time frame.
- Cash flow statement. It is a record of cash transactions, including the inflows and outflows, in a given time frame. In a cash flow statement, we can see whether every revenue booked on the income statement is collected or not.
A summary
Cash flow is the money that moves in and out of business. Operating cash flow refers to the money generated from main business activities while investing cash flow refers to every capital asset and investment purchase in different business ventures. Financing cash flow is the total amount produced from issuing debts and equities and company payments. Analysts find cash flows helpful when assessing profitability as it describes the generated money minus the costs.