What Is Cash Flow Analysis?

Cash flow means the flow of liquid cash through a company over a given period. Cash is paid in return for material and labour in businesses that are run for profit. The revenue the company receives provides cash used for financing more sales and production. They can also be used in increasing the economic value of the company.

Non-profit organisations, like hospitals, schools and charities also benefit a lot from cash flow analysis, especially when these organisations need to meet their on-going expenses that are associated with the services they provide.

The manager of a company must understand how the company generates cash flow and the factors that are impacting the rate of cash flow. It will help the manager and the company to make very important financial decisions that can further increase the economic value of the company. The same issue applies to a non-profit organisation; they need to understand their cash flow to increase their capabilities in service delivery to humanity.

The management of a company has the responsibility of proper cash flow management, among other things. They must understand how to manage the working capital of the company, which is the operating liquidity that the company have access to.

A company can have profitability and assets, but it may be short of liquidity if it cannot convert its assets readily into cash.

With working capital, the organisation can continue its day-to-day operations and will also have adequate funds for servicing its maturing short-term debt and satisfying its operational expenses. Working capital management has to do with the management of the four aspects of the company’s operations as highlighted below:
1. Cash
2. Accounts payable (money owed to suppliers)
3. Accounts receivable (debts that clients and others are owing the company)
4. Inventories (finished goods, work-in-progress, and stock).

Profitability of the company will be improved if it manages its working capital effectively. The managers will also not have to worry about insolvency and can, therefore, concentrate more on their works. Both non-profit and commercial organisations need to pay good attention to effective working capital management; it can reduce how much is required to run their activities and increase profitability.

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Importance of working capital management

Shortage of working capital can make a company fail. It does not matter if the company was once profitable, had full order book and many satisfied customers. When there is a shortage of working capital, an organisation may find it difficult to pay its suppliers or workers. The company may be able to pay its workers and suppliers, but it may not have adequate working capital to venture into other investments or to reinvest into the business. As a result, the company may still end up folding up.

The four areas mentioned above, vis-à-vis, cash, accounts payable, accounts receivable and inventories, are very important to working capital management. A manager needs to have a very clear understanding of each of these factors for better understanding about how working capital can be controlled by the company.


Slow payment of invoices can cripple a company since it causes the company to have very little working capital. The company will have to spend time and money to chase up unpaid invoices; at times the company may have to adopt an aggressive measure to get these debtors to pay up, which may negatively impact customer relationship.

While it is imperative to retrieve debts from owing customers, you also need to handle the issue carefully to avoid damaging customer relationship. The company’s policy on debt collection must set appropriate expectations and be polite while also being assertive. You can follow the tips below to make debt collection easier:
1. Agree with the customer in advance on payment terms.
2. Send out your invoice promptly
3. Do not delay in resolving queries sent by the customer
4. Do not delay or wane in asking for payment
5. Focus first on the largest debts
6. Give credit control high priority
7. Make sure your credit policies are comprehensive.
8. Keep in mind that you are only demanding for something that the customer had earlier agreed to pay.

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Make sure you keep stock as low as possible and work towards achieving a high rate of stock turnover. This will help you to reduce the impact on the working capital of your organisation. This ideal is somewhat difficult to attain in real life situation, though it is the right thing in theory; this is because the company has to meet all the commitments it had earlier given to its customers.

The components of stock/inventory are:
1. Finished goods, which are the goods that are available
2. Work in progress, which include raw materials already committed to the production and partly finished goods.
3. Raw materials, which include raw materials that are needed for goods production.

Many companies have adopted a policy to delay paying their suppliers for as long as possible intentionally. Many benefits are associated with this. For one, the company will be getting an interest-free loan from, the supplier by delaying their payment.

As a result, the company can access more working capital. Be that as it may, this strategy has its demerits as highlighted below

1. Suppliers may not want to give the company any discount on goods purchased.
2. Suppliers may end up delaying the request of the company for raw materials
3. Suppliers may find it difficult to trust the company again for fast, raw material delivery despite all efforts to convince them.
4. If the company has any crisis, the supplier will not be willing to extend credit.

Considering the above, it may not be a smart move to intentionally delay suppliers’ payments, especially when it concerns very important suppliers. The company should try not to take more than a few days extra after supply to pay the supplier. Even if the company exceeds the time specified in the contract, it must not exceed the time for longer than few days.

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Instead of delaying payment for longer than it is necessary, the company should rather negotiate discounts, better delivery, and better prices.

An organisation can be short of cash even though it is profitable. Factors that can cause this are highlighted below:
1. When customers fail to meet payment terms earlier agreed; this situation usually occurs when promoters and sales agents are not saddled with the responsibility of enforcing payment
2. When the company could not defer tax payments without attracting a penalty; this will unavoidably drain the company of cash.
3. When the company has to buy capital equipment that will gulp cash. This will reduce available cash
4. When the company has to spend money on materials before selling goods; this can happen in an expanding company that needs to spend money on salaries, items for sale and so on before it can complete sales and get its payment. Expenses and purchases usually precede profit and sales, as a fact of business life.

It is essential for a company to monitor and forecast cash payment and receipt accurately to avoid cash insolvent.

A manager needs to make plans for known cost and contingency for any unanticipated challenge, like supplies refusing to supply raw materials if the company does not pay up or late payment of debts by customers. This is called cash flow forecast, and the company should include it as part of its overall budgeting management process.

As you are working on your cash flow forecast, areas, where savings or improvements can be made, will be highlighted for you. The cash flow analysis can equally help identify areas of potential problems.

You can negotiate an additional overdraft with the bank or defer an investment for some weeks as part of your contingency plans.

Would you like to read more about this topic? This book might interest you: Cash Flow Analysis.