To keep the money flowing, it's best to know how to calculate your cash flow.
What is cash flow? Cash flow is a performance indicator that reflects a company's cash flow. It gives an indication of a company's self-financing capacity (CAF) and its need for working capital to support and finance its business.
Cash flow is the difference between cash receipts and cash disbursements. But not all financiers agree on the calculation of cash flow: operating cash flow, free cash flow or cash flow to equity... There are several cash flow calculations. In this article, co-written with Eric Desquatrevaux, we take stock of the situation and explain how to calculate it simply.
What is corporate cash flow?
Cash flow: definition and translation
Cash flow is the French word for " cash flow". It's a performance indicator that highlights all cash flows linked to a company's activities.
It comprises :
- cash in, e.g. payments received from customers,
- cash outflows, such as purchases of raw materials or settlement of supplier debts.
💡 Cash flow is often confused with cash flow from operations. While it gives an indication of a company's self-financing capacity, these notions are distinct. Positive cash flow can be used for purposes other than self-financing, and it can also be negative, making self-financing impossible.
Keeping an eye on the right indicators for long-term financial health
"Cash is king. Especially at the moment. In addition to the classic indicators based on your sales and WCR, I strongly recommend that you have a precise idea of your cash flow and self-financing capacity to build a healthy business for the long term.
The same applies to EBITDA: it is included in the calculation of free cash flow, but is quite distinct from it.
The definition of cash flow explained in video :
Cash flow from operations, free cash flow, cash flow to equity: what are the differences?
Cash flow from operations is used to analyze the financial flows generated by a company's activities.
Free cash flow, on the other hand, is used to perform the same analysis, but subtracting the investments required for operations. It highlights the cash actually available to the company and its financial performance. It is this amount that is used to repay debts or remunerate shareholders.
Cash flow to equity is free cash flow less tax and net change in bank and financial debt. It is used to estimate the value of a company's equity.
These three concepts lead to different cash flow calculations. Let's take a look at how to calculate cash flow.
Cash flow is a cash concept, not an accounting one
Cash flow is a cash concept, not an accounting one. What does it mean?
In accounting, the difference between expenses and income gives the net income. But some of these accounting entries are simply entries and do not represent cash flows. This is the case, for example, with depreciation and amortization, which spread the cost of an investment over a given period, whereas from a cash flow point of view, the total sum of this investment represents a cash outflow.
This distinction requires the restatement of depreciation and amortization to calculate cash flow, and thus obtain actual cash flows.
Other adjustments need to be taken into account:
- customer payment terms, as customers do not always pay at the time of invoicing,
- suppliers' payment terms, who may grant you an extension or ask for a deposit,
- the value of inventories.
To finance this operating cycle, the company calculates its working capital requirements.
How to calculate cash flow?
How to calculate cash flow
In simple terms, cash flow is the difference between money coming in and money going out of the company's bank account:
cash flow = receipts - disbursements
- Cash flow is negative if outflows exceed inflows.
- Cash flow is positive if outflows are less than inflows.
Calculation of operating cash flow
Operating cash flow = net income + net depreciation, amortization and provisions - capital gains + capital losses - change in working capital.
Free cash flow calculation
Free cash flow = EBITDA - tax on operating income + change in working capital - investments + divestments
Calculation of cash flow to equity
Cash flow to lenders = free cash flow - financial expenses + financial income + change in bank and financial indebtedness
How to calculate cash flow simply and forecast it more accurately?
We've looked at the theory, but what can you do in practice when you're faced with your accounts and want to know your cash flow?
Draw up a cash flow plan
This table lists all the cash inflows and outflows (receipts and disbursements) of a company.
- It provides visibility on cash flow.
- It helps calculate cash flow.
- It helps anticipate working capital requirements to finance the company's activities.
- It is a decision-making tool.
Automate your cash flow with software
Why adopt software? Because you have a business to develop, customers to satisfy... and time to save!
Cash management software calculates this for you, reduces the risk of errors and :
- connects to your bank: with bank reconciliation, all cash flows on your accounts are automatically transcribed into the tool;
- simplifies multi-company cash flow monitoring: you have several accounts, but you're no longer lost among all the accounting and financial documents, as everything is centralized;
- provides visibility on cash flow over 6 months, one year, three years... you can quickly analyze your cash position visually with graphs;
- produces detailed cash reports.
It's hard to go on with an Excel spreadsheet when you consider all these advantages. So which tool should you choose?
- Agicap automatically categorizes your banking transactions according to your advanced rules, and lets you create cash flow scenarios to anticipate the impact of events on cash flow and make the right decisions.and make the right decisions (for example, how do you anticipate cash flow in the event of an economic slowdown or short-time working?).
Note: these two solutions offer the functionalities mentioned in the list above.
Older market players such as Cegid or EBP also offer solutions.
How to analyze cash flow?
Cash flow is an indicator of a company's financial health and solvency. How do you interpret it?
If the result of your cash flow calculation is positive:
- your business generates value in the form of cash;
- your company is in good financial health, which reassures lenders and investors if you are looking to increase your capital;
- you have cash flow and can make investments to develop your business;
- you can repay debts;
- you can distribute dividends.
If the result of your cash flow calculation is negative:
- your business is not yet generating enough wealth to finance your expenses: you're spending more than you're earning;
- you need to consider a bank loan or a capital increase.
Anticipate to avoid negative cash flow
The key to avoiding negative cash flow is to anticipate and forecast your cash flow as accurately as possible. Use a cash flow plan and leave nothing to chance: all expenses and revenues must be taken into account. Indeed, resorting to bank loans to offset negative cash flow costs money; be careful not to fall into a spiral you won't be able to get out of.
Article translated from French