Cash Flow, a term every business man is familiar with, it is also a term a lot of business man misunderstand.
So what is a cash flow?
Cash flow, to a finance guy, is the most important thing in a business.
However, if you go and tell the boss this, he will disagree, he will tell you sales is the most thing in a business.
if cash flow breaks down, definitely the business will break down.
People may argue without sales, you don’t have money coming into the business.
However people tend to forget when you start a business, you need capital, that is cash flow!!!!.
In a nutshell, cashflow is the amount of cash that is moving in and out of your business cycle at a certain period.
Positive and Negative Cashflows
If you have more cash flowing into your business than out of your business, then you have a positive cashflow.
That means you do not have to worry about meeting your payments requirement and settling your expenses especially the salaries of the employees.
On the other hand, if your cash flow position shows a negative cashflow, perhaps it may give you some worrying signs.
Negative cashflow may indicate your inability to meet your financial obligation, you may also have difficulty in paying for your expenses, worse still, you may not able to purchase goods to sell.
Thus, the importance of having enough money to meet all the business obligations is also knows as Working Capital.
What is the different between Sales and Cashflow?
Earlier I mentioned about sales and cashflow, and people think these two items are the same and one.
Actually the two terms are quite different, though these two terms go hand in hand and related closely.
Without sales, after the initial start up capital, there is no inflow of money to the business and this will create a big problem for the business to operate smoothly.
Hence, sales to certain extent is an indication how much money will be coming into the business.
What about Profit and Cashflow?
quite a few people like to think profit is equivalent to cashflow.
You can hear people ask a question – the company has so much profit, but why isn’t there money in the business at all?
Some are puzzled the business has so much profit but having difficulty to fulfil its financial obligation.
A good credit analyst will do the followings:
- look at the profit and loss account of a business,
- he will also look at the changes in the financial position of the business.
By looking at the changes in financial position of a business, it is easier
- to determine whether the business has healthy and
- positive cashflow, or whether
- the business is facing acute cashflow deficit despite being very profitable.
Therefore, the management must learn how to read the statement of changes in financial position.
Importance of understanding changes in financial position.
This is to enable them
- to grasp a better idea and take hold of the situation.
- By doing so, at least the management has a rough idea
- of what is the position of the liquidity of the business, and if need be,
- take some actions to strengthen the cashflow of the company.
Why does cashflow matters and important?
Just imagine, if you do not have the cash in hand, a lot of things in the business will come to a standstill.
You may not be able to pay the salary of your employees, this will badly affect the morale of the staffs.
When suppliers hear you have cashflow problem, the first thing they do is to cut the supply and this will affect the operation of the business.
Worse, if the suppliers decide to take drastic action to recover the amounts the business owed to them.
This will definitely
- damage the reputation of the business
- when suppliers file for action to wind up the business or
- put it under judicial management.
Managing cashflow and learning how to do it effectively, is a fundamental process.
A process which eventually will lead you to grow your business in a more profitable and sustainable way.
Once one has learnt and finally know the inside out of cashflow management, it is then the time to start looking at growth of the businesses.
Next I will be talking about How To Manage Cashflow Effectively in my next article.