Cash Flow Flashcards
cash flow
money that flows in and out of a business
positive cashflow
will enable the firms to fulfil its day-to-day running costs
cash inflow
money received by business
cash outflow
money paid out by the business in a determined period of time
why is profit different from cash flow
profit indicates the amount of money left over after all expenses have been paid, cash flow indicates the net flow of cash into and out of a business
profit
positive difference between the total revenue and the costs
insolvency
when a business runs out of cash but is still profitable
insolvency can occur when
- The firm allowed costumers very long credit periods
- Paying suppliers too early, leaving the firm with little or no cash
- Buying new equipment or new assets in that particular month
- Paying the firms debt with the cash (in that month)
- Buying too much stock with cash that is supposed to cover other costs of the business (also know as overtrading)
cash
- money that gets into the business in the form of: sale of goods, investment by shareholders and funds from financial institutions (i.e. banks).
- is needed to pay day-to-day bills, such as wages, electricity, payment to suppliers, etc.
- cash is the most liquid asset of the business and it is found in current assets in the Statement of Financial position (Balance Sheet).
- lack of cash can lead to bankruptcy of the business.
opposite of insolvency
Have a positive cash flow but be unprofitable – the business will have a lot of cash but the sales are not enough to generate profit. This cash can come from different sources such as:
- bank loans
- sale of some fixed assets for the business
- from shareholders
cash flow forecast
financial document that shows the expected monthly movements of cash inflows and cash outflows of a business.
most important terms for a cash flow forecast
- opening (cash) balance
- total cash inflows
- total cash outflows
- net cash flow
- closing (cash) balance
opening (cash) balance
amount of cash the business has at the beginning of every trading period (i.e. Month). The opening balance is the same value as the previous months’ closing balance.
total cash inflows
sum of all the inflows of a particular month (i.e. payments made by debtors, loans from banks, income from renting any property, sales of a fixed asset, etc.)
total cash outflows
refers to the total cash that leaves the business in a particular month (i.e. rent, bills to be paid, wages, taxes, payment to creditors, etc.)
net cash flow
difference between cash inflows and cash outflows. This figure should ideally be positive although it is possible that it would be negative if a business is suffering cash flow problems.
closing (cash) balance
estimated cash available at the end of every month. Its is calculate by adding the Net cash flow of one month to the opening balance of the same month.
advantages of cash flow forecast
- very useful document for anyone that wants to “start-up” a business, providing estimated projections.
- Allows a business to see when they might need a loan or any other type of finance. If positive, the firm can show its solvency to investors (i.e. Banks)
- Helps to plan for any unexpected bills/payments they may have in the future. Allowing managers to plan for the future.
- Helps compare predicted figure with actual figures so the business can assess where the problems lie.
disadvantages of cash flow forecast
Only accounts for a small portion of the year
Only a rough estimate, not very accurate
May not take into account payments that will affect the business in the future
difference between cash flow forecasts and cash flow statement
A cash flow statement is a financial document that shows the details of actual cash inflows and cash outflows of the business, for a period of time.
It can be used TO HELP prepare the cash flow forecasts, which are PREDICTIONS of the cash flows.
The aim of every business is to keep a ‘healthy’ cash balance, however sometimes the firm can face some cash flow problems, such as:
- overtrading
- overborrowing
- overstocking
- poor credit control
overtrading
when a business tries to expand to quickly or aggressively without sufficient resources to do it.
overborrowing
the more money the firm borrows the more interest they will have to pay (on top of the actual debt)
overstocking
when a firm holds too much stock as a result of an ineffective stock control
poor credit control
when the firm offers costumers an extended credit period.
what is investment?
- refers to the act of spending money on purchasing an asset with the expectation of future earnings.
- involves wealth creation including the hope that the bought asset value grows overtime.
- some examples of some financial investments are: buying stocks, bonds or property. All investments are risky specially if there a changes in the market.
What are the strategies to deal with cash flow problems?
Reducing cash outflows
Improving cash inflows
Seeking alternative sources of finance
reducing cash outflows
Negotiate late payment with suppliers and creditors
Purchases of fixed assets can be delayed
Decrease some expenses
Source from cheaper suppliers
Leasing rather that buying
improving cash inflows
Cash payments only
Create incentives for creditors to pay early
Diversify the product on offer
Change pricing policy
seeking alternative sources of finance
Selling fixed assets
Overdrafts
Sale and lease back
Debt factoring
Government assistance
