Cash Flow Analysis

Overview

Cash flow analysis, also known as cash flow forecasting or cash flow projection, is the method of computing the solvency of a business by measuring the inflow and outflow of cash. This analysis is done to ensure that adequate finance is maintained in the business for its efficient functioning.

Cash flow analysis involves examining various components that are related to cash in an organization like accounts receivable, accounts payable, inventory and other credit terms. It provides a snapshot of a company's financial condition at one point in time by an accountant or any other responsible financial officer.

How It Works

Cash flow analysis is divided into three components - cash flows from operating activities, cash flows from investing activities, and cash flows from financing activities. Cash from operating activities include money from sales, rent payments, payments for utilities, tax payments, and other related expenditures. Money from investing activities includes all the activities related to investing in property, equipment, securities and so on. Finally, cash flow from financing activities includes proceeds from loans, payment of loans, and dividend payments. All of these are mentioned in terms of cash and cash equivalents.

There are two methods for preparing a cash flow statement - the direct method and the indirect method. Under the direct method cash and bank statements are analyzed and an offsetting entry is determined for every cash entry. Another direct method is to prepare a worksheet for every major item and eliminate the effects of accrual basis. With the indirect method the changes in working capital is computed by adding decreases in current assets and increases in current liabilities. Then, the increase in value of current assets and the decrease in value of current liability are subtracted.

Benefits

Cash flow statements provide detailed reports on cash and other cash equivalents of a company. It is of great benefit to seek information like net earnings, profit or loss of the company, depreciation expense, changes in inventory, changes in accounts payable, and changes in accounts receivable.

It is also useful to analysts, investors, stockholders, potential investors and lenders to assess the financial position of the company. They help companies know their ability to meet their liabilities. Cash flow analysis is also extremely helpful for planning and management of future financial commitments and when applying for additional funding.

Costs

The cost of a cash flow analyst consultant can range anywhere from $25,000 to $75,000 per term. It will vary on a variety of factors including the experience of the consultant, the size of the company, and the length of time required to complete the job.

Timing

Cash flow analysis is not only concerned with the amount of inflow and outflow of cash but also the timing in which the cash flows. For this purpose, cash flow analysis can be done at multiple time periods in the same fiscal year. Cash flow statements are generally prepared annually or biannually, but they can be done more or less frequently depending on your company's needs.