Cash flow analysis – An important tool for analyzing profitability

Greenstep 2021 04 web

Being in control of your company's finances is an important factor in achieving success and profitability. Cash flow analysis is a method of tracking money coming in and out of a company's bank account over a period of time, and is an important part of a company's financial planning.

What is Cash Flow Analysis?

A cash flow statement is a financial report that shows how much money comes in and out of a company's bank account over a given period of time. It includes both money coming in from sales and other income, as well as cash outflows for various purchases. The cash flow statement thus shows how the company's money has been used during the given period.

Why is cash flow analysis important?

Controlling cash flow is an important part of a company's financial planning. By keeping track of cash inflows and outflows, you can make informed decisions about how to best use your resources. The cash flow statement also provides an indication of the company's liquidity, i.e. its ability to pay its bills and debts on time.

How is a cash flow analysis performed?

To perform a cash flow analysis, you need to collect information about the company's financial transactions during the period in question. This includes both income and expenses and changes in balance sheet items such as inventories, accounts payable and accounts receivable. These are then summarized in inflows and outflows for each category. This can be done in different formats, but usually either the direct or indirect method is used.

Indirect method

The indirect method is based on the income statement and adjusts for items that do not affect cash flow.

Direct method

The direct method accounts for all actual receipts and payments that occur during the period.

Three parts of a cash flow statement

A cash flow statement can be divided into three parts: operating activities, investing activities and financing activities.

Operating activities

The operating or operational part shows how much cash flow is generated from the company's daily activities. This includes sales of goods and services, payments from customers and payments to suppliers, payroll costs and other operating expenses. A positive cash flow on the operating side is a sign that the company's operations are profitable and that there is potential for growth.

Investing activities

The investment-related part shows how much cash flow is used to invest in the company. This includes the purchase of property, equipment and other assets required to run the business. A positive cash flow in the investment-related part is a sign that the company is investing in its future growth.

Financing activities

The financing-related part shows how much cash flow is used to finance the company's operations. This includes raising and paying loans, paying dividends to shareholders and other financial transactions. A positive cash flow share in the financing-related part indicates that the company has access to capital to run its business.

By analyzing the different parts of a cash flow statement, companies and investors can get a clear picture of the company's financial health and future potential. This can help make informed decisions about investments and business strategies.

Who needs a cash flow statement?

A cash flow analysis is an important tool for all businesses, regardless of their size and industry. It is particularly important for SMEs, as they often have limited resources and may be more vulnerable to cash flow problems.

Business owners, management teams and financial managers should all be aware of the importance of cash flow analysis. It is a key part of the company's financial planning and helps to understand how the company's money is used.

A cash flow analysis can also be valuable to investors and lenders. By analyzing the company's cash flow, they can gain a better understanding of the company's financial strength and stability.

What can you learn from a cash flow analysis?

By analyzing cash flow, you can get a better understanding of your company's financial situation. For example, you can discover if there is an imbalance between income and expenses, which may indicate that you need to make changes to ensure you can achieve your goals or increase profitability. You can also gain a better understanding of the factors that affect cash flow and use cash flow to inform your strategic decisions.