Updated: 15/02/22
The CASH FLOW or cash flow relates to the cash inflows and outflows that a company or project has to deal with over a given period of time. These cash flows indicate the solvency of a company as they measure its level of liquidity, i.e. its ability to pay its debts.
Cash flow is calculated as the difference between income and expenditureNet cash flow is the expenditure that a company has to incur. It is essential to ensure a positive cash flow to ensure the survival of the company or project. Cash flow is an indication of the economic situation in real time.
Cash flow calculation
As explained above, cash flow is obtained by subtracting expenses from net income (all kinds of actions that have generated an economic benefit for the company). The result of this operation can be analysed in two ways: the company is solvent (can take over outstanding payments) or is insolvent (cannot take over the payments).
A positive cash flow generates a solvent result for the company, i.e. it indicates that current assets are worth more than debts. This means that money can be returned to shareholders or invested in new assets that generate more profit for the company or project.
The negative cash flow is related to the insolvency of the company as it means that current assets have decreased; annual or monthly profits are lower than expenses. It is normal for a negative cash flow to be generated in a single month, but if it occurs repeatedly it can lead to the bankruptcy of the company; no entity or project can sustain itself with negative income for a very long period of time.
A good entrepreneur will always look for a positive cash flow, not only because of higher revenues (which translates into profits), but also because the company's shareholders or banks will grant credit more easily; the risk of not being able to pay it back is relatively low. The collateral to get a credit or loan with a negative cash flow is considerably reduced.
Types of cash flow
Cash flows can be divided into three main types depending on the object of analysis:
Investment cash flow (ICF): The benefits of purchasing assets in the future, e.g. a machine that speeds up production times in a factory, are analysed.
Operating cash flow (OCF): only the income and expenses of the business activity are taken into account.
Financial cash flow (FCF): all monetary transactions are taken into account (company income, loan repayments, investment, interest, purchases of a part of the company, etc.). This cash flow provides more insight into the overall economic situation of the company.
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