What Is Cash Flow? Why Money In and Out Is Crucial

Cash flow describes the money that actually enters and leaves a business over a period. While the income statement shows revenues and expenses according to accounting rules, cash flow shows what happens to the means of payment.

A business can be profitable and yet experience payment difficulties. This can happen when customers pay late, inventory ties up a lot of capital, or large investments must be paid for before they generate income.

Three Types of Cash Flow

A cash flow statement is typically divided into three areas:

• Operating activities: payments from customers, suppliers, employees, and other parts of ongoing operations.
• Investing activities: purchases and sales of machinery, buildings, businesses, and other long-term assets.
• Financing activities: new loans, debt repayment, capital injections, and distributions to owners.

The sum explains the change in cash and cash equivalents over the period.

Profit and Cash Flow Are Not the Same

When an invoice is sent, income can be recognised before the customer pays. Depreciation reduces profit but is not a payment in the period. Investments, on the other hand, can result in a large outflow now, while the cost is spread over several years in the income statement.

Therefore, profit and cash flow should be read together. Positive cash flow from operations over time normally supports the quality of earnings. Repeated discrepancies should be explained.

What Should You Look For?

Consider whether ongoing operations generate cash, or if the business is dependent on new loans and capital injections. Also, look at trends in accounts receivable, accounts payable, and inventory. Large fluctuations may be natural in seasonal businesses, but can also signal strained liquidity.

Cash flow is not automatically “good” simply because it is positive. A company can receive cash by taking out loans or selling important assets. The reason for the change is therefore crucial.

Cash Flow in Proffi

Where the data basis exists, Proffi should show cash flow from operating, investing, and financing activities separately, with a clear financial year. Where a full cash flow statement is not available, the service must avoid presenting an estimate as a reported fact.