Cash Flow (Intro)
June 15, 2009, 9:32 pm
© Copyright 2009 Integrated Profitability TM
“Cash flow” has been raised as a topic that might be of interest to small businesses. There are excellent textbooks on the different types of cash flow (from 1- ongoing operations, 2- investments and 3- finance activities). Use of an internet search engine is even a faster way to get as much, or as little, information as one wants on cash flow:
● what it is
● how is created
● how it is reported
● how to extract it from a company’s financial statements.
Most of the sources need to delve into the different financial statements that are used to analyze cash flow. One site I found with a lucid, short description of cash flow is at Investopedia®: A Forbes Digital Company.
Unfortunately, if you go much below the surface, there is a lot of accounting conceptual framework and financial statement reading that comes into play to accurately calculate a company’s cash flow; and what that cash flow might mean for the health and long-term sustainability of the company. A key point is that “cash flow” is most important, because it is most hidden, when the company’s accounting is on an accrual basis. For now, the important point here is that the accrual basis of creating financial statements is the best way to align revenue with expense. Accrual accounting is required for most financial reporting because it does give the best alignment of finance flows.
So, how to increase positive cash flow?
If an activity is reported on a cash basis instead of an accrual basis, cash flow is singularly obvious. Apart from the complexities that result from using accrual accounting, “cash flow” is straightforward: cash coming increases it, cash going out decreases it. As any businessman knows, however, one has to spend money before making money (which is why seed capital from some source is needed to start a commercial venture).
Once the business is up and running, there are only two fundamental ways to increase cash flow:
1) increase the inflow of cash (yes, I could have said “Sales” or “Revenue” but these two might not, in fact, increase cash flow the moment they happen: when on an accrual accounting basis, of course)
2) decrease the outflow of cash (again, yes, I could have said “Expenses” but these might not, in fact, increase cash flow when they happen—again, on an accrual basis)
The reasons “Sales & Revenue” and “Expenses” may not immediately impact cash give you a few ways to temporarily increase cash flow.
For a short period of time, one can improve cash flow by collecting faster on Sales. If your sales are made on credit, with several weeks/months between the date of the sale and the receipt of the cash, try to shorten that cycle. With costs, if you can lengthen the time to pay expenses, there will be an improvement in cash flow.
Over the long-haul, however, the only way to increase cash flow is to permanently widen the gap between revenue and expense. That is, increase margin. Sustainable long-term cash flow growth comes from a revenue stream that is growing faster than underlying expenses.
That said, there are steps one can take to squeeze out the last drop of cash flow for a business. We’ll come back to this.
Bill
William A. Stong
Email: william.a.stong@gmail.com
SBF&P # xx
© Copyright 2009 Integrated Profitability TM
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