Cash Flow Analysis

Learning Outcomes

  • Describe how cash flow factors can be used to improve or evaluate a business

So, why is all of this information so important? What would happen if your company has sales of $100,000 a month, but they only collect $50,000 a month in cash, and their accounts receivable has a high balance in the 90+ days outstanding column?

What if in addition to the issues with your accounts receivable, the balance sitting in accounts payable is really high, and the company is very far behind in payments. The cash account is perpetually at zero or less, and there have been problems with payroll checks bouncing.

The boss calls you in to discuss how to improve cash flow. You look over the income statement. Sales are great, and the expenses are low. Payroll is in line with where it has always been, so if you just looked at the accrual based income statement you wouldn’t have any concerns.

Ah, but then you wander over to the balance sheet. Cash in the negative, $200,000 in receivables, and $200,000 in payables. What is going on?

Let’s go back to the first sentence of this learning outcome. Only $50,000 a month is being collected on $100,000 in sales. The ball is being dropped here, right? But do we blame the folks in collections, or might the problem be earlier in the ordering cycle?

Perhaps going back to the customer acquisition system is required here. What is the process to give terms to your customers? Is there a formal system for checking the credit on new customers? Do you require cash payments from new customers until their credit application can be processed? Do you have an online payment system, so customers can easily pay their outstanding invoices with a credit card?

Once the customer acquisition process and collection procedures are corrected, cash flow will improve, bills will be paid on time, and the cash balance with be positive!

Easy to see how important analyzing the cash flow is and how it can be used to improve or evaluate your business processes and procedures.

When we look at cash flow, we can also look at a forecasted cash flow to help us see where our company is at from a cash standpoint, and where we could make improvements. This forecasting can also be helpful  for a new business or to evaluate cash needs in an existing business during periods of growth or slumps.

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A forecasted cash flow statement can be created based on historical data, or, in a new company, can be created from budgeted amounts that include intended collections processes for accounts receivable and expenditure payments for accounts payable.

By preparing a forecasted cash flow, you can see where problems are before they become big problems!

Practice Questions