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What is cash flow (including template for cash flow calculation)

August 30, 2021

First of all, do you know how much money is coming in and going out of your business? Well, if your first reaction was hesitation, it means that you need to create a cash flow document that will allow you to understand how much money you have available to carry out all the activities in your business that require money.

Indeed, unlike what many people think, cash flow is a document and not the money in bills and coins that you have in your business. Although we know this subject can be complicated because there is probably a lot of terminology, we will explain this subject in a very simple way. 

It can be said that the cash flow is a document that allows you to record the income and expenses of cash in your business, during a specific period of time. More technically speaking, it is a financial statement, which is also known as a cash flow statement.

Now, before we talk about cash flow and how you can calculate it, it is necessary to explain other concepts such as cash inflows, which are all transactions that increase the money available in your business; and cash outflows, are all activities that decrease the available money. 

That is to say, a cash inflow is the sale you make of your product or service, while the outflows are the purchases you must perform to manufacture your products, salaries or rent a commercial space.

What is cash flow?

This is one of the most important financial statements in your business; therefore it is a document that has the necessary information to know the capacity of your business to generate money, what your financial obligations are or how the money is coming in. For example, it is not the same to have a lot of cash in your business because you borrowed money, as it is to have a large inflow of money from sales.   

In other words, the cash flow allows you to have order and clarity, because through this document, you know how money behaves in your business. As one of the basic documents that every company or business should prepare to help you make intelligent decisions such as adjusting prices, bargaining with suppliers, making better calculations for the purchase of supplies, etc. 

It means that adopting good financial habits that at the end of the day can improve the profitability and therefore the longevity of the companies. For this reason, it is very important for entrepreneurs to know how it is calculated or, if they have the support of an expert, to have a basic understanding of how it is done in order to understand the financial situation of the business.

Cash flow inflows and outflows

As mentioned above, cash flow by definition is the continuous recording of all the income and expenses of a business, but you must be careful when dividing the money into these items, because even though these definitions seem simple, you must not confuse sales with income. 

Therefore, if you are selling but your customers pay you on credit, that money should not be counted as income until the total amount for the value of the sale is settled. On the other hand, expenses represent only the ones payable in the current month; for instance, services like electricity are paid bimonthly, meaning that in one month these items will be recorded in the cash flow but not the following month. 

This is important because it will help you project how much money you will need to have available in cash or in bank accounts.

Three fundamentals for calculating cash flows

When calculating your cash flow, it is important that you know how to categorize your resources into three elements: operating activities, i.e., all expenses related to payroll, rent or sales; investing activities, which include the purchase of equipment or fixed assets; and finally, financing activities (including loans or investments). 

You should also consider that any of these three activities can result in cash inflows or outflows. To help you understand this, here is an example of how simple a cash flow may look like.

Imagine you have a taco stand, in the first month you receive 500 pesos in sales, but a person comes to ask you to prepare a taquiza for a private event. You make a quotation of one thousand pesos for that event and the customer accepts, so he gives you 500 pesos in advance, because you will have to perform the service in three months.  

That is why, in the first month you should only put the 500 pesos of sales and the 500 pesos of advance payment that you have already received, you do not put the other 500 pesos of the event, since it is money that your business has not yet received and thus this money is not available. 

The second month you sell 400 pesos, but this time the investment you have to make for your product has to be higher than the previous month to make the event you had already agreed upon. Since this investment is a little higher, the cash flow would be negative but to not miss the opportunity of the event, you ask for a loan and receive 800 pesos.

This money is reported in the cash flow as income since it is money that you receive in your bank account and it will be recorded as cash outflow when you have to make monthly payments. 

So this is the way the cash flow register works, but so that you don't have any doubts about how to do it, we will share with you a file to help you to do it correctly. Simply leave your email address and get it.

Download the template

What to do with this information

This document will help you know how much cash your company is generating from its core business operations. When the subtotal in this section is very low or negative, you may find that the company is not generating enough cash through its core business activities, which could be a problem.

A shortfall in cash flow from operating activities will have to be made up through financing or investing activities, or by using cash reserves from previous periods. If you are investing your money, you can then find inflows from the proceeds of equity and debt issues.

Thus, when you see your cash flow statement again, please do not overlook it. It's not as complicated as you think, look closely at the subtotals of each major section and figure out how your business is generating and using its cash, so you can act appropriately at the right time.

Improving your cash flow

Making profits is a long-term process, because the first profits you make will be used to pay debts, reinvest in your business and even distribute them among your partners before starting to make real profits, but once you have them, you need to know these three tips to improve your cash flow.

1. Keeps meticulous records

Let no income or expense escapes you, which will allow you to make a financial forecast.

This cash flow is a kind of map that tells you which is your current financial situation and where it will be -approximately- in the future. This is very important because some small and medium-sized businesses (SMBs) cannot afford the costs associated with their continued growth, and this can lead to financial hardship.

Let's take an example: if you had more sales, you would hire more employees and you would get a larger inventory, right? It's all very well, but that translates into money going out of your business up front and you don't know when it will come back. From a situation like this arises the importance of keeping a rigorous control of the income and outflows of your money, which allows you to anticipate any inconvenience.

2. Review your customer or supplier agreements

Check to see if the accounts and sub-accounts involving your customers and suppliers are balanced if you are having problems with the cash flow your business needs to continue operating. As an example, if you are used to paying your suppliers every 20 days, but you receive money from your customers or debtors up to 31 days later, you will need money to make up the 11-day difference.

It is important to ensure that your business does not have liquidity problems or debts in the short or medium term. To do this, you can reduce collection periods, charge interest to customers who do not pay on time and even provide incentives for customers who pay promptly.

3. Set up a payment discipline

To speed up your sales, you could use an integrated payment system -such as a cell phone terminal- that allows you to increase cash sales and address some of these concerns:

  • Fast receipt of payments for your sales.
  • Access to historical records of your card sales.
  • Offer convenience and security to your customers.
  • Offer discounts or promotions to sell slow moving products.
  • Easily resolve disputes and chargebacks through payment receipts.
  • Consider that mobile and/or banking terminals improve the time in which you receive payment for your products or services, while helping you improve your customer service.

You must remember that the most important thing to manage your cash flow effectively is to control the money-physical or otherwise-that comes into your business and the money that goes out. And this means being involved in all areas of your business: from tracking your sales on a daily, weekly and monthly basis, to pricing your business appropriately.

Implementation Tips

Have a realistic view of the numbers, because at the end of each month you will have to get used to reviewing all the financial data, review the actual data compared to the budget. Estimate how you think things have gone and compare it to what has actually happened.

Controlling your spending is important, so budgeting and forecasting is a natural way to approach the conversation about finances. Take the discomfort out of it and plan to have those conversations every month. Check your financial statements on a monthly basis and see how much you're spending.

Ask for outside help - after all, someone has to keep accurate books and records, which is critical to building a future.

In conclusion

Although the most basic formula for recording cash flow is cash inflows minus cash outflows, you must pay close attention to how you organize the items by activities concerned and above all you must be very careful in how you record the inflows and outflows. 

However, these are basic financial education topics for your business and cash flow is merely one of the tools that can help you to have good habits and therefore generate wellbeing for your business.

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