There are many factors, which effect on cash flow position of business. Cash flow is a balance of liquid funds available after dealing with the operating, investing and financing activities. Everything management does with these three activities is the reason of any specific state of cash flow. Let us suppose, if a credit manager is extending credit limit of credit customers, resulting in low profile of business cash flow. On the other hand, if credit policies are designed in such a way that minimum credit period is allowed and discount policies are made to attract early payments, this will definitely ensure good position of cash flow at the end.
No doubt, management has to encounter certain credit customers who may go bankrupt and depleting the cash flow balance. There are some market factors too, which nevertheless effect business sales, market share and eventually the cash earned through sales. Every next activity and decision taken by management, no matter at strategic, tactical or operational level, will have an impact positive or negative on cash flows.
Investing and financing decision taken by top management like purchase of long term assets, starting new project or product, buying some building or office property, these all decisions need consumption of heavy cash.
If not carefully planned, this heavy investment can go into huge losses and creating severe cash flow difficulty as all expenses related to assets or project will be due without any amount of profit available. Although for getting finance, businesses have bank options for loan. Taking loan in term of financing activity also has long-term possibility of heavy cash out flow as repayment.
Ideally, operational, financial and investing decisions should take into account the expected cost of these decisions. Loan will have a cost of interest payment as well as payment of principal amount. Poor control on sales credit and inappropriate style of supplier payments will be a hindrance in maintaining sufficient cash flow. Keeping high levels of inventory and poor quality of finished goods will not improve sales trends, which will directly affect cash flow.
Keep in mind, in general, there are many expenses, which are recorded in income statement as cash outflow but in cash flow terms, this is not an outflow unless certain event occurs. Depreciation is the expense of profit and loss that effects book value of an asset on gradual basis. Impact on cash flows will only be materialized when the respective fixed asset is sold.
Taxation is another expense that has direct impact with cash flow statement as it is paid on regular periods resulting in cash outflow. Sale and purchase of long term assets should ensure profitable.
There are certain items on balance sheet, that cast effect on cash flows in their own way: inventory are current assets in balance sheet but their impact will be only realized in cash flow when inventory level has been increased or decreased. Any policy associated with changing level on inventories will create cash inflow or outflow in cash flow statement.
As we know, we measure the current position of a business by analyzing its balance sheet and income statement, but future growth, feasibility, budgeting and forecasting, NPV, IRR these decisions are always taken based on cash flows expected in future. Improved position of cash flow is a driver to business’s successful future.
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