What is Cash Flow?

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cash flow

What Is Cash Flow?

Cash Flow Definition

Cash flow refers to fluctuations in a business, individual, or institution’s money. It analyses the liquidity position of a company. In short, cash flow is the snapshot of the amount of cash that comes in, the place it comes from, and the flow out of the cash.

Cash flow refers to cash movement in and out of a business or a company in a given period. 

Remember one essential thing: cash flow is not the same as profitability. 

A profitable business can still run out of cash if they don’t manage its expenditures properly. 

Now let’s understand the purpose of calculating cash flows. 

Businesses thrive on cash. Therefore it is mandatory to keep track of cash inflows and outflows. 

They do this to have a cash backlog for expected and unexpected events in the business. 

When a business sells its products and services to customers in good financial condition, it is much more likely that they will pay on time. 

However, if the customer the business is selling to is not in an excellent financial position, it will affect the payment.

All of this will negatively impact the cash flow.

When the business receives steady cash flows, it can invest the excess cash in investments that give a much higher yield.

The second advantage of having stable cash flows is that the leaders can put the money back into the business as long as the returns are higher than the cost of capital.

Finally, businesses can also use the excess cash as a cash reserve and use that money during business hardships. 

How To Calculate Cash Flow?

Most small businesses aren’t aware of calculating cash flows, or sometimes it’s too overwhelming for them to understand and learn these financial and accounting terms. 

We will sort all of that out for you by explaining in simple terms what the concept of cash flow is and how to calculate it.

Here we will discuss the three cash flow formulas and their definitions. 

Free cash flow

Free cash flow is one of the most common and important formulas businesses use regularly.

The free cash flow will give you the amount of cash available at your disposal and answer a few of these questions:

  • How much cash can you use for your clients’ welcome and thank you cards?

To calculate the free cash flow value, you need some key financial values from your income statement.

Put the values in the basic free cash flow formula below to get the cash you will have in hand. 

Free Cash Flow = Net income + Depreciation/Amortization – Change in Working Capital – Capital Expenditure.

Operating cash flow

To better understand your typical cash flow, you must rely on operating cash flow or OCF. 

OCF can help you in the following areas:

  • When your business is looking to get funding from other banks or venture firms
  • When you want to start working with an accountant or financial consultant

As with the free cash flow, for OCF, you must have your balance sheet or income statement beside you ready.

The operating cash flow formula is:

Operating Cash Flow = Operating Income + Depreciation – Taxes + Change in Working Capital

Cash flow forecast

To better understand the amount of cash you will have in the future, you must refer to the cash flow forecast. 

This formula will help you better understand cash when planning for the future- maybe next month or quarter.

You may use cash flow forecasting software or the easy cash flow forecast formula below to calculate the cash you expect to spend and bring in shortly

Cash Flow Forecast = Beginning Cash + Projected Inflows – Projected Outflows = Ending Cash.

Cash Flow vs. Revenue

Both the metrics, cash flow, and the revenue will show the financial condition of the business operations. 

The key difference between cash flow and revenue is that the cash flow measures the liquidity flow or the cash coming in and leaving the business.

On the other hand,  revenue measures marketing, sales efforts, and effectiveness. 

The cash flow statement has all the cash flow values, and the income statement is the financial statement of revenue. 

Revenue is known as the top line because businesses write it at the beginning of the income statement. 

The value of cash flow must always be positive for a firm, or else it means that the firm doesn’t have the money to operate its business.

On the other hand, revenue must be greater than the expenses to show that the business is flourishing.

The reporting of the revenue takes place on an accrual basis. That refers to the sales already in the pipeline, but the money has not come in yet. This method of accrual accounting provides a more comprehensive and accurate depiction of the financial health of the business.

The reporting of cash flow happens on a cash basis. 

Free cash flow formula:

Free Cash Flow = Operating Cash Flow – Capital Expenditures.

Revenue formula:

Marginal Revenue = Change in Revenue / Change in Quantity


What are the two types of cash flows?

There are two types of cash flows – positive cash flow and negative cash flow. 

If at the end of every month, the cash that comes out is more than the cash at the beginning of the month, then it is a positive cash flow. 

For example, if you put $5000 into your business at the beginning of your month and by the end get $8000. 

Then you have a positive cash flow of $3000. 

It is a negative cash flow if the money returned at the end of the month is less than what the company started with at the beginning of the month.

For example, if you put $5000 into your business at the beginning of your month. And get $2000 at the end of the month.

Then you have a negative cash flow of $3000.

What is the discounted cash flow?

Discounted cash flow is the process of determining the present value of future cash flows. 

Businesses conduct the discounted cash flow analysis to derive the investment value. 

The valuation of the investment in today’s time is analyzed using DCF to determine the amount of money it will generate in the future.

What are some cash flow examples?

Three examples of cash inflows from operations, financing activities, and the investment activities are as follows:

  • Operations: Cash customers give for services such as royalties, commissions, and cash for suppliers.
  • Financing activities: this is the debt incurred by the entity. It includes the stock sales, contributions of donors, debt issuance, and so on.
  • Investment cash flows are gains received on invested funds. They include fixed assets sale, loan collection, investment instruments sale, and more.

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