What is Cash Flow?

Cash Flow is a report on a company’s cash inflows and outflows over a given period of time. We also use it to refer to the net accumulation of liquid assets. In that sense, it is a vital indicator of a company’s liquidity. Other terms used are cash flow and cash flow

Importance of Cash Flow

Cash Flow allows us to determine real liquidity by providing us with key information for decision making, thus allowing us to know:

• Our real acquisition capacity in terms of merchandise, raw materials, supplies, etc.
• If we can acquire in cash or if we need to request a credit.
• If it is necessary to collect in cash or if there is the possibility of granting credit.
• If we can pay the debts acquired by the company before their due date, or if not, if we need to manage some form of refinancing for the same.
• If we have a surplus of funds that we can invest in new investments, since the Cash Flow is the basis for calculating the net present value and the internal rate of return.

Types of cash flows

When we talk about Cash Flow, we must take into account the 3 main types of liquidity flows:

• Operating Cash Flow: cash received or expended from the company’s basic economic activities.
• Investment Cash Flow: cash received or expended based on capital expenditures that can generate future profits.
• Financing Cash Flow: cash received or expended on loans, issuance or repurchase of shares and/or payment of dividends.

How to prepare a Cash Flow

Cash Flow is calculated using a table model with rows and columns. In the columns are the time periods, usually months. In the rows, on the other hand, we enter capital inflows and outflows:

• income from productive or service activities
• sale of assets (divestment)
• subsidies
• etc.

In the outgoing cash, logically, both variable and fixed costs are included.

Free Cash Flow: formula

Free Cash Flow is the cash flow from operating activities after deducting investments. In other words, it is the money generated after production costs are deducted. It is used to pay shareholders, creditors and investments. To calculate Free Cash Flow, the formula would follow the following algorithm:

1. Gross Profit: Sales – Cost of Sales
2. EBIT (Earnings Before Interest or Taxes): Gross Profit – Selling Expenses – Depreciable Expenses + Other Revenues
3. NOPAT (Net Operating Profit After Tax)eBIT – Taxes
4. EBIDTA (Net Cash Flow) = NOPAT + Depreciation and Amortization Expense
5. Finally, Free Cash Flow is: EBIDTA – Investment in operating current assets – CAPEX (investment in operating fixed assets)

The above is, when calculating Cash Flow, the best known and most commonly used formula.

Simplified Cash Flow formula: example

Let’s take a look at a very simple example of the different cash flow formulas: Cash Flow = This example is more descriptive than practical, because in practice we must take into account all the elements and steps mentioned in the complete formula.

Limitations when calculating Cash Flow

The formulas described above have their limitations when applied in cases of operating, investing or financing cash flow, cash flow statement, etc. In most cases, we will need to resort to methods of direct or indirect estimation of cash flows, on-site study of cash flow, evolution of the statement of source and application of funds, etc. Fortunately, we have websites to calculate Cash Flow online, as well as desktop applications for businesses and companies. In fact, there are examples among the cash flow calculators that allow you to perform quite complex operations.

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