This blog post gives a cash flow definition and looks at why you need to know how to manage and forecast your cash flow.
We also thought it would be useful to explain a few other significant financial terms so you are completely equipped to manage the financials of your business.
Cash flow definition
There are a number of different variations of the definitions of cash flow but the one we like most is:
‘ The difference between the cash coming into a business, in a set period of time, and the operating costs going out of a business in the same period of time. ’
This is a very simple definition and doesn’t explain the types of income or costs that are included in this definition so let us delve a little deeper.
Money included in the ‘incoming’ half of our cash flow definition includes:
- Cash from sales
- Loan proceeds or interest from money lent
- Revenue from sale or letting of property
- Investment – Directors loans, grants etc.
- Dividends received
Costs included in the ‘operating costs’ part of our cash flow definition include:
- Salaries and supplier costs
- Business rates
- VAT / taxes
- Repayment of loans or investment
- Dividends paid to shareholders
- Purchase of equipment or assets
So now we know that the definition of cash flow is the ‘flow’ of available cash in and out of your business. If your business's cash flow regularly ‘flows’ out more cash than it 'flows' in, you are going to become unstuck very soon.
Equally, an excess of available cash could be building up in your business if more is ‘flowing’ in than ‘flowing’ out. Whilst this may seem like utopia, you could be putting that excess cash to better use within your business. You could use it to expand, invest or grow.
I’m sure by now you've realised that understanding and managing your cash flow is essential to running a healthy business but wouldn’t it be great if you could look into the future of your business and see what the impact different decisions could have on your cash flow.
For example; if you are thinking of expanding into new product lines, how much cash would you need available in your business to do this?
This is what the Finanscapes forecasting software has been specifically design for; Cash flow forecasting.
Operating cash flow definition
Operating cash flow, commonly abbreviated to OCF, is a measure of the amount of cash generated by your business's normal business operations (sales) minus the cash required to pay for its investments.
For more information about operating cash flow and some top tips on how to improve yours, see 7 Ways to Improve your Operating Cash Flow.
Profit and Loss (P & L) definition
It is not unusual for those who are new to financial terminology to get cash flow and profit confused for the same thing but they aren’t.
Profit and loss refers to the difference between the price your business charges and the amount it spends. Note that we said the "amount your business charges" - not just the amount you charge you customers. You might have other sources of income - and unfortunately, not all of your invoices will be paid. Equally you'll have all sorts of different costs too, some of which are treated differently when calculating profit.
For more information on profit and loss, net profit and gross profit, visit our Glossary page.
Break Even definition
Break even point is another commonly used financial term. Essentially, your break even point is when your incomings and outgoing match, in terms of profit rather than cash flow.
In simple terms, when you are invoicing the same as you are being invoiced. It is really important every business knows what its break even point is because if you aren’t invoicing more than you are being invoiced, how are you ever going to make any profit and grow your business.
There is nothing wrong with dipping below your break even point, in fact, it is almost impossible not to when growing and expanding but you need to know when you are going to break even again and how long your business and cash flow, can support not breaking even.
Knowing what your business's break even point is can be tricky, which is why our forecasting software tool has been designed with a ‘simple-to-understand’ dashboard. You can clearly see on a bar chart or line graph, what your break even point is, when you are likely to reach it and what the tolerance levels are.
Why not try our forecasting software for FREE today?
Other financial terms
We have a wealth of financial terms and explanations in our glossary with video content to clearly explain the definitions and make the fiscal part of running your business as easy as possible.
Bookmark our glossary today and you easily refer back to it whenever you need to.