Cash flow

Accountancy
Key concepts
Accountant · Accounting period · Bookkeeping · Cash and accrual basis · Cash flow forecasting · Chart of accounts · Journal · Special journals · Constant item purchasing power accounting · Cost of goods sold · Credit terms · Debits and credits · Double-entry system · Mark-to-market accounting · FIFO and LIFO · GAAP / IFRS · General ledger · Goodwill · Historical cost · Matching principle · Revenue recognition · Trial balance
Fields of accounting
Cost · Financial · Forensic · Fund · Management · Tax (U.S.)
Financial statements
Balance sheet · Cash flow statement · Statement of retained earnings · Income statement · Notes · Management discussion and analysis · XBRL
Auditing
Auditor's report · Financial audit · GAAS / ISA · Internal audit · Sarbanes–Oxley Act
Accounting qualifications
CA · CPA · CCA · CGA · CMA · CAT · CFA · CIIA · IIA · CTP · ACCA

Cash flow is the movement of money into or out of a business, project, or financial product. It is usually measured during a specified, finite period of time. Measurement of cash flow can be used for calculating other parameters that give information on a company's value and situation. Cash flow can e.g. be used for calculating parameters:

to determine a project's rate of return or value. The time of cash flows into and out of projects are used as inputs in financial models such as internal rate of return and net present value.
to determine problems with a business's liquidity. Being profitable does not necessarily mean being liquid. A company can fail because of a shortage of cash even while profitable.
as an alternative measure of a business's profits when it is believed that accrual accounting concepts do not represent economic realities. For example, a company may be notionally profitable but generating little operational cash (as may be the case for a company that barters its products rather than selling for cash). In such a case, the company may be deriving additional operating cash by issuing shares or raising additional debt finance.
cash flow can be used to evaluate the 'quality' of income generated by accrual accounting. When net income is composed of large non-cash items it is considered low quality.
to evaluate the risks within a financial product, e.g. matching cash requirements, evaluating default risk, re-investment requirements, etc.

Cash flow is a generic term used differently depending on the context. It may be defined by users for their own purposes. It can refer to actual past flows or projected future flows. It can refer to the total of all flows involved or a subset of those flows. Subset terms include net cash flow, operating cash flow and free cash flow.

1 Statement of cash flow in a business's financials
2 Ways Companies Can Augment Reported Cash Flow
3 Examples
4 See also
5 References
6 External links

Statement of cash flow in a business's financials

The (total) net cash flow of a company over a period (typically a quarter or a full year) is equal to the change in cash balance over this period: positive if the cash balance increases (more cash becomes available), negative if the cash balance decreases. The total net cash flow is the sum of cash flows that are classified in three areas:

Operational cash flows: Cash received or expended as a result of the company's internal business activities. It includes cash earnings plus changes to working capital. Over the medium term this must be net positive if the company is to remain solvent.
Investment cash flows: Cash received from the sale of long-life assets, or spent on capital expenditure (investments, acquisitions and long-life assets).
Financing cash flows: Cash received from the issue of debt and equity, or paid out as dividends, share repurchases or debt repayments.

Ways Companies Can Augment Reported Cash Flow

Common methods include:

Sales - Sell the receivables to a factor for instant cash. (leading)
Inventory - Don't pay your suppliers for an additional few weeks at period end. (lagging)
Sales Commissions - Management can form a separate (but unrelated) company and act as its agent. The book of business can then be purchased quarterly as an investment.
Wages - Remunerate with stock options.
Maintenance - Contract with the predecessor company that you prepay five years worth for them to continue doing the work
Equipment Leases - Buy it
Rent - Buy the property (sale and lease back, for example).
Oil Exploration costs - Replace reserves by buying another company's.
Research & Development - Wait for the product to be proven by a start-up lab; then buy the lab.
Consulting Fees - Pay in shares from treasury since usually to related parties
Interest - Issue convertible debt where the conversion rate changes with the unpaid interest.
Taxes - Buy shelf companies with TaxLossCarryForward's. Or gussy up the purchase by buying a lab or O&G explore co. with the same TLCF.^[1]

Examples

Description	Amount ($)	totals ($)
Cash flow from operations		+10
Sales (paid in cash)	+30
Materials	-10
Labor	-10
Cash flow from financing		+40
Incoming loan	+50
Loan repayment	-5
Taxes	-5
Cash flow from investments		-10
Purchased capital	-10
Total		+40

The net cash flow only provides a limited amount of information. Compare, for example, the cash flows over three years of two companies:

	Company A			Company B
	Year 1	Year 2	year 3	Year 1	Year 2	year 3
Cash flow from operations	+20M	+21M	+22M	+10M	+11M	+12M
Cash flow from financing	+5M	+5M	+5M	+5M	+5M	+5M
Cash flow from investment	-15M	-15M	-15M	0M	0M	0M
Net cash flow	+10M	+11M	+12M	+15M	+16M	+17M

Company B has a higher yearly cash flow. However, Company A is actually earning more cash by its core activities and has already spent 45M in long term investments, of which the revenues will only show up after three years.

References

^ Cash Truths That Aren't (copyright approved). See also CFA level2 2007 Curriculum Vol2 pg210

External links

International Federation of Accountants International Good Practice Guidance on Project Appraisal Using Discounted Cash Flow