Cash flow is a fundamental tool for the financial management of any company. Understanding how it works and implementing efficient control practices is essential to ensure the financial health and growth of the business. In this article, we will explore in detail what cash flow is, how it works, its different models, the benefits of organizing it, and how to avoid common mistakes when preparing it.
What is cash flow?
Cash flow is essentially the movement of cash inflows and outflows of a company over a given period , often related to a specific project or operation. It represents the amount of cash that enters and leaves the company during that period, reflecting all the financial transactions that occur.
This includes revenue generated, such as country email list sales of products and services, investments and loans, as well as all payments made, such as operating expenses, payments to suppliers, employees and taxes. Cash flow provides a detailed view of a company’s financial activities , allowing managers to assess its liquidity and make informed decisions about its financial management.
Read also: New SAGE-ERP Cash Flow Report.
How does cash flow work?
To prepare a cash flow, it is necessary to monitoring and optimization record all of the company’s receipts and payments, from sales made to the payment of expenses . This involves a variety of activities, such as recording cash and installment sales, receiving invoices, making purchases, both cash and installment, and paying operating expenses, among others. In addition, it is essential to make accurate projections of future receipts and payments, generally covering a period of at least three months.
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Direct cash flow
Direct Cash Flow is one of the simplest and most direct models for tracking a company’s financial movements. In it, all cash inflows and outflows are recorded explicitly and in detail , without considering the effects of operational, investment or financing activities on cash.
In this model, cash inflows include all revenue from sales of products or services, as well as any other type of financial resource inflow, such as loans, investments, among others. On the other hand, cash outflows encompass all of the company’s expenses and costs, such as payments to suppliers, salaries, operating expenses, taxes, among others.
The main feature of Direct is its simplicity and clarity . It provides an immediate and detailed view of the company’s financial transactions over a given period of time, making it easier to monitor and control finances.
However, it is important to note that Direct does not consider the effects of investing and financing activities on the company’s cash flow. Therefore, while it is useful for monitoring day-to-day operations, it may not provide a complete picture of the company’s long-term financial health.
Indirect cash flow
Indirect is an accounting model used to analyze cash variations over a specific period, taking into account net profits and the adjustments necessary to calculate the cash variation from the net result obtained in the Income Statement (DRE).
Unlike Direct, which directly records all cash inflows and outflows, Indirect starts with net income, as calculated in the Income Statement, and makes the necessary adjustments to convert this value into the net cash flow generated by the company’s operating activities.
Depreciation and amortization: Adjusts net income to exclude non-cash expenses such as depreciation and amortization of assets.
Changes in operating assets and liabilities: adjusts net income to take into account changes in current assets and liabilities that do not involve cash transactions, such as accounts receivable, inventory, accounts payable, among others.
Other non-cash items: includes adjustments for other non-cash items that affect net income, such as foreign exchange gains or losses, provisions, among others.
By making these adjustments, Indirect Cash Flow provides a more accurate view of the cash flow generated by the company’s operating activities, allowing a more complete analysis of its ability to generate cash from its business operations.