You are likely familiar with the phrase, “Cash is the lifeblood of any business.” Every business must have a clear understanding of the cash it needs versus the cash available to ensure smooth business operations. Cash flow helps you gain insights into the cash coming and going out of your business, enabling you to leverage cash properly and make informed business decisions.
Many businesses start strong by having a solid business plan, offering quality products and services, having enough capital, and hiring a skilled team. Nevertheless, eventually, numerous of these companies encounter difficulties, specifically those concerning cash flow problems. The origins of these issues typically lie in ineffective cash flow management or a limited understanding of cash flow.
How can you, as a business owner and key stakeholder, prepare to tackle these challenges? This blog will discuss the significance of calculating cash flow and provide practical examples to guide you in calculating net cash flow effectively.
Cash flow pertains to the overall cash movement in and out of your business. Cash inflow is money received from sales, investments, or financing, while cash outflow is money spent by the business. By monitoring and analyzing these cash flow components, businesses can optimize cash usage, ensure liquidity, and enhance long-term value.
Net Cash Flow = Total Cash Inflows – Total Cash Outflows
The first step in calculating cash flow involves preparing a cash flow statement, which summarizes a business’s cash inflows and outflows over a specific period. Typically, a financial statement includes three parts: cash flow from operations, investments, and financing. This is the analysis of each category:
Cash flow from operating activities indicates the cash earned or used in the company’s main business activities. This includes cash payments, revenue generation, paying expenses, and funding working capital. It measures the ability of a company to generate cash from its core business operations.
Cash flow from investing activities measures the cash generated or spent on investments in assets such as property, equipment, or technology. It reflects the changes in a company’s long-term investments and capital expenditures, providing insights into its growth and strategic decisions.
Cash flow from financing activities measures the cash inflows and outflows related to a company’s financing activities. Financing activities may include borrowing, repaying debt, issuing or repurchasing stock, and paying dividends. It provides insights into how a company raises capital and manages its financial structure.
Calculating cash flow using the cash flow statement provides a comprehensive view of the company’s cash inflows and outflows, crucial for assessing its financial health and operational efficiency. Let’s understand how to calculate cash flow using a cash flow statement with an example:
Let’s take a look at the cash flow statement of Amazon’s 2023 annual report. To calculate cash flow using the cash flow statement, the first step is to look for cash flow from “Operating Activities”, “Investing Activities” and “Financing Activities”. After that, we need to follow these steps:
Total cash flow = Cash flow from operating activities + Cash flow from investing activities + Cash flow from financing activities
For example, for the accounting period of 2023, we can determine the cash flow for Amazon as follows:
Cash flow from operating activities = $5.4B
Cash flow from investing activities = $5.4B
Cash flow from financing activities = $1.4B
Total cash flow = $12.2B
To calculate cash flow from operating activities:
Cash flow from operating activities = Net income + Non-cash expenses +/- Changes in working capital
Where,
Net income is the total revenue of the company minus all expenses, taxes, and other costs incurred during a specific period.
Non-cash expenses are the expenses that are recorded in the income statement but do not involve the actual outflow of cash during the period (depreciation, amortization).
Working capital is the difference between a company’s current assets and current liabilities.
Let’s consider company ABC’s financial data for the period as follows:
Net income = $100,000
Depreciation expenses = $20,000
Changes in working capital = $6,000
Cash flow from operating activities = $100,000 + $20,000 – $6000
Cash flow from operating activities = $114,000
To calculate cash flow from investing activities:
Cash flow from investing activities = CapEx − Purchase of marketable securities − Business acquisitions + Proceeds from the sale of investments + Proceeds from the sale of non-current assets
Where,
CapEx is the fund used by a company to acquire, upgrade, or maintain physical assets such as property, buildings, or equipment.
Marketable securities are liquid financial instruments that can be quickly converted into cash at a reasonable price.
Proceeds from the sale of investments are the cash received from selling financial investments like stocks, bonds, and other securities.
The negative signs before CapEx, purchase of marketable securities, and business acquisitions indicate cash outflows, while the positive signs for proceeds indicate cash inflows.
Let’s consider company ABC’s financial data for the period as follows:
Capital Expenditures (CapEx): $500,000
Purchase of Marketable Securities: $300,000
Business Acquisitions: $1,200,000
Proceeds from the Sale of Investments: $400,000
Proceeds from the Sale of Non-current Assets: $150,000
Cash flow from investing activities = $500,000 − $300,000 − $1,200,000 + $400,000 + $150,000
Cash flow from investing activities = -$450,000
To calculate cash flow from financing activities:
Cash Flow from Financing Activities = Debt Issuances + Equity Issuances − Share Buybacks − Debt Repayment − Dividends Paid
Where,
Debt issuance is the funds raised by a company through the issuance of bonds or taking on loans.
Equity issuance is capital obtained by a company by issuing new shares of stock.
Share buyback.
Dividends are the repurchase of a company’s own shares from the marketplace, reducing the number of outstanding shares.
Debt repayment is the outflow of cash used to pay back borrowed funds such as loans or bonds.
The negative signs before share buybacks, debt repayment, and dividends paid indicate cash outflows, while the positive signs denote cash inflows.
Let’s consider company ABC’s financial data for the period as follows:
Debt Issuances: $1,000,000
Equity Issuances: $500,000
Share Buybacks: $200,000
Debt Repayment: $700,000
Dividends Paid: $150,000
Cash flow from financing activities = $1,000,000 + $500,000 − $200,000 − $700,000 − $150,000
Cash flow from financing activities = $450,000
Cash flow provides invaluable information about a company’s financial performance, stability, and ability to create value for stakeholders. Calculating cash flow is important for several reasons:
Cash flow plays a crucial role when it comes to ensuring financial stability for a business. To get granular visibility into cash flows, organizations must have the capability to accurately track and record all cash inflows and outflows. HighRadius Cash Management Module helps with
Additionally, HighRadius Cash Forecasting Module provides:
To calculate cash flow to stockholders, you need to subtract dividends paid from the net income and add any increase in equity. The formula is: Cash flow to stockholders = Net income – Dividends paid + Increase in equity.
You can use the net present value (NPV) function, to calculate the discounted cash flow (DCF) in Excel. Here’s the formula: `=NPV(rate, cashflow1, [cashflow2, ….]) with the rate being the discount rate or required rate of return, and cash flow 1, cash flow 2 representing a series of cash flows allocated to different periods.
The formula for annual net operating cash flow is:
Annual operating cash flow = Net income + Non-cash expenses + Changes in working capital. Net income is the total profit or loss, non-cash expenses include depreciation, and changes in working capital represent adjustments for current assets and liabilities.
The global cash flow assesses a borrower’s capability to produce sufficient cash flow to meet all debt obligations, encompassing income sources outside of their main business activities. The basic formula for global cash flow is: Global cash flow = Net operating income + Non-operating income – Total debt
Cash flow from assets = Operating cash flow – Net capital spending – Changes in working capital
where
Operating cash flow: Net income + Depreciation + Amortization
Net capital spending: Ending net fixed assets – Beginning net fixed assets + Depreciation
Changes in working capital: Ending working capital – Beginning working capital
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