The Importance of the Concept of Cash Flow
Assignment: The importance of the concept of cash-flow for the business finance Definition: Cash flow is the movement of money into or out of a business, an account or an investment. Normally, when the cash inflow is greater than the cash outflow it is a sign of a good financial situation because cash flow is essential for the survival of a business or even to any individual financial condition. If the company can meet its obligations and keep a healthy inflow of cash it has a healthy situation and the management of the company can invest most of its time in developing the company.
There are 3 types of cash-flows: Operating cash-flows, which is the money received or spent as a result of a company’s normal business activities. Investment cash-flows, which is the money received or spent through investing activities and thirdly the financing cash-flows, which is the cash received through debt or paid out as debt repayments. Example: Imagine that you run a shoe factory. Having cash is necessary for your business to flow. If you have cash you can pay your suppliers, your employees and yourself on time and so keep the business flow.
Therefore if you, as an individual, receive your pay check, you can pay for all your expenses (e. g. housing, food, utilities, insurance, etc). Here we are speaking about operational cash-flow. Another way of creating cash is if you opt for purchasing and selling assets. This is normally a long term issue that can help your business grow and might lead to a net worth increase. This is called investment cash-flow. There are companies that are specialized in this area that manage funds that invest and divest in property.
Finally, a third option you have is financing cash-flows. This includes any cash which comes from loans or other types of other debt that allow you to finance your cash flow. It is also used to finance the down payments made of debts. Conclusion: Based on the above, one understands the importance of managing carefully the cash-flow and also having capacity to meet emergency situations in order to be protected from unexpected circumstances, be it in a business or personally.
To be able to run a company in a healthy way it is important to have a good and open relationship with your banks and secure lines of credit for certain times of the year when there is a delay in the cash inflows and also when there is a specific opportunity that requires cash. Companies that manage their cash flow in a positive way have a much stronger possibility of being successful. An example of an unexpected situation, and for which many are not normally prepared, is the sudden downturn in an economy just like what has happened in Portugal in the past three years.
The factors which have had the biggest impact in the financial viability of companies are the inflation rate and above all, the restrictions on access to cash (e. g. : loans). If a business is not able to manage its cash-flow carefully and is not capable of setting aside emergency reserves (access to loans), then in a situation like today it will not be able to finance its cash flows and might enter into default. In some cases more than the economic capacity of a company it is its financial situation that might lead to a bankruptcy.
We can then say that having cash is crucial for an entity to survive because companies with ample cash on hand can invest the cash back into the business and so generate more cash and profit. An old saying: “When the going gets tough, Cash is King! ” Bibliography: Marques, Manuel de Oliveira, “A Importancia do Correcto Entendimento do Conceito de Cashflow para a Analise e a Tomada de Decisoes Financeiras”, Estudos de Economia, vol. IV, n. 4, Jul-Sept 1984. Monica Alvares Ribeiro N? : 120499032