In finance there is a particular jargon and terminology when it comes to naming each of the aspects of the economy. Whether it is domestic or family economics, business, state, etc. Every thing that is derived from money and can be counted must be classified so as not to end up with a pile of meaningless data. And of course, in companies, there is a wide financial terminology, such as Cash Flow.
In this article, we'll discuss cash flow, also known as cash flow statement . We'll cover how it's accounted for, the different types, and how to use it to assess a company's financial health. While the term is widely used in the business world, it can also be applied to personal finance. Ultimately, it all comes down to how much control we have over our finances, and of course, how we can leverage it to our advantage.
What is Cash Flow?
Cash flow, or cash flow statement, is a term that refers to all cash inflows and outflows of a company, in the broadest sense. Although it's often used as a barometer, where a positive cash flow is considered profitable, a liquidity problem doesn't necessarily mean the company is unprofitable. In fact, cash flow can be used to determine the following:
- Cash problems. There may be a negative cash flow, without meaning that the company is not profitable. In fact, the purpose is to anticipate and determine cash balances.
- To find out how viable an investment activity can be. Thanks to the cash flow, the net worth and the internal rate of return can be calculated and the future returns on the investment can be determined.
- To measure the profitability or growth of a business. It is not strictly necessary, but there may be circumstances in which the accounting standards do not fully represent the economic reality of the company.
Then, there are 3 types of Cash Flow, depending on the liquidity flows that you want to analyze. The operational cash flow, the investment cash flow, and the financing cash flow. Next we will see them.
Operating Cash Flow
Operating cash flow (OCF) is the total amount of money a company generates from its activities and operations. It shows all cash inflows and outflows from operating activities, making it difficult to manipulate. It can also include expenses related to suppliers, personnel, sales, etc.
Income includes all those related to sales and services, collections and bills receivable within those sales. Also all income from customers, as well as the State and/or aid or payments for the purchase of goods.
Finally, expenses may include those related to raw materials or products for resale. They also include payments to suppliers and staff, as well as taxes paid to the government as a result of operating the business.
Investment Cash Flow
Investment cash flow encompasses all cash inflows and outflows resulting from a company's investment activities . This includes financial products that can be converted into cash, such as the purchase of real estate, tangible and intangible fixed assets, machinery purchases, investments, and acquisitions. All of these activities are aimed at generating future returns.
Financing Cash Flow
Financing cash flow is cash generated from financing activities. This includes money received from or paid out on loans, stock issuances, share buybacks, and/or dividends, for example. It encompasses all the liquidity derived from financing operations, that is, the company's long-term liabilities and equity. It also includes bond issuances or capital increases, which represent cash inflows.
Calculate the cash flow in the family economy
Although it should be a responsibility for every family or individual, calculating cash flow can be a complicated , or rather, time-consuming task. Many of our expenses and income aren't reflected in our bank account. If we pay in cash, for a small treat, or for minor purchases we might make even while traveling, these should all be accounted for. On the other hand, if receipts, loan payments, rent (if applicable), and so on are reflected in our bank account, they'll be more difficult to track.
To calculate it, simply list all your income and expenses , with your salary usually being the main source of income. If you're self-employed, your income will be highly variable. A cash flow statement should be prepared beforehand to determine your profits based on your business activities.
Basically, the calculation would be as follows: Cash Flow = Net Income + Depreciation + Provisions.
Having control of our finances and having a positive cash flow will allow us to anticipate the positive balances with which we can make future claims. From buying a home, to investing leftover money.