All companies need to know whether they’re making a significant profit. This is where cash flow comes in; the term describes the amount of money coming into a business, how much is applied to operations and how much is left over. Looking at all these factors can let business owners know if their enterprise is growing and where they can improve efficiency.
What Does It Include?
Cash flow includes both cash and cash-equivalent assets. Cash can comes from the sale of goods and services, while cash equivalents have monetary value but aren’t money. A few examples are corporate commercial paper, certificates of deposit, bankers’ acceptances and U.S. Treasury bills.
Since this concept describes funds that both enter and leave a company, you also need to look at spending. This includes operating expenses and paying debts. Comparing the net income to total spending can give an indication of a business’s financial health.
How Is It Measured?
To get an exact measurement, you need to subtract your opening balance, which is the cash amount at the beginning of the financial period, from your closing balance, which is the cash amount that remains at the end. This will give you either a negative or a positive amount.
A negative amount is a bad sign, as it means the company is spending more than it’s making. You may need to make some major adjustments to ensure the enterprise succeeds. A positive amount, on the other hand, is a good sign, as it means your company is making more than it’s spending. It can also indicate if your business is booming or if it’s only moderately successful and could benefit from adjustments.
Why Is It an Important Metric?
A metric is a particular measurement that businesses use to evaluate their performance. Cash flow is a good indicator of profitability and how effectively the enterprise is being managed. Companies should always strive to grow, which means this metric should show improvement over time. If there’s a plateau or downturn, business owners know something is wrong and can address issues before they impact the company too badly.
Who Uses This Metric?
Businesses aren’t the only ones who look at this metric — investors, financial institutions and alternative lenders also use this information. For example, if you’re interested in a loan, the bank may want to know about your profitability in addition to your credit history. Investors also want to look at profits to judge whether they’ll make returns on the money they invest in your company.
