Cash Flow: Definition, Uses and How to Calculate
Cash flow is a measurement of the money moving in and out of a business. It helps to determine financial health.
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Senior Editor & Content Strategist Cash flow is a measure of the money moving in and out of a business. You calculate it by subtracting your business's expenses from its sales and other revenue.
On a high level, cash flow represents revenue received (inflows) and expenses spent (outflows). You can find your business's total net balance over a specific period on the cash flow statement. This report shows where the cash came from and how your business used it. Most accounting software includes this report to help you track your business finances.
How do you calculate cash flow?
1. Start with the opening balance
The opening balance is the total amount of cash in your business accounts.
2. Calculate cash sources (inflow)
This amount is the total money taken in during the period. It includes money received, but not sales totals. That's because a longer-term contract might spread income over several months.
Inflow includes cash in from loans, transfers, sales of assets and anything else brought into your business. This total, plus the opening balance, equals the total cash balance.
3. Determine cash uses (outflow)
This value is the total of all payments made. This includes payments for rent, salaries, inventory, taxes and loans. Count annual bills in the month you pay them, even if your business spreads the budget over the year.
4. Subtract uses from balance
To find your cash flow value, subtract the outflow total from step 3 from the total cash balance from steps 1 and 2. This final number will also be the opening balance for your next month or operating period.
Cash flow calculation example
Say you started the year with $10,000. In January, you made $3,000. Add the two together to get a total cash balance of $13,000.
Your most regular cash expenses were related to rent, credit cards, loans and utilities. Typically, these will show up as individual line items, along with every other cash expense you paid during the month.
Let's say your rent is $2,000, and your monthly credit card payment is $400. You know you'll be on the hook for at least $2,400 each month.
But this month, you also had to pay back a relative who loaned you $300 to fix your computer. And, you opted to pay your $250 utility bill in cash. (Right now you’re only tracking your cash flow, so you don’t need to include expenses you’ve financed with a credit card). Add them together, and you have total cash expenditures of $2,950 for the month.
Now, refer back to the original equation: cash in minus cash out.
$13,000 - $2,950 = $10,050
This is the balance you’ll roll over to the next month.
What do you use cash flow for?
For smaller businesses: Positive cash flow can demonstrate business health. It suggests a business can pay regular expenses, reinvest in inventory and remain stable in the off-season. Negative flow can mean your business is spending more than it's making.
For larger companies: Cash flow helps determine a larger company’s value for shareholders. The most important factor is its ability to generate long-term free cash flow (FCF). This measure considers money spent on capital expenditures.
What are the types of cash flow?
Cash flow can fall into multiple categories. Separating these into calculations for operations, investing and financing can help clarify the state of your cash flow.
Cash flow from operations
This refers to cash that normal business operations generate. Its total value equals cash received from sales minus operating expenses. This equation also factors in overhead expenses and employee salaries.
Cash flow from operations is usually reported quarterly and annually. Ultimately, it can help determine whether a business needs outside financing.
» MORE: See how well you're managing cash flow with our DSCR loan calculator.
Cash flow from investing
Cash flow from investing focuses on the cash that a business's investments generate. Investments can include physical assets (e.g., equipment, property) and securities (e.g., stocks and bonds).
The sale of assets count as cash inflow. Asset purchases and losses from securities fall under cash outflows.
🤓 Nerdy Tip
While cash flow from operations should usually be positive, cash flow from investing can be negative. This can show that a business is actively investing in its long-term health and development. Cash flow from financing
This term points to the flow of cash used to fund a business. It may include equity, debt and cash moving between the business and its investors or creditors.
All funds associated with raising capital to start or expand a business fall under this category.
» MORE: Best small business loans
What does a cash flow statement show?
A cash flow statement shows how well a business can earn cash, manage expenses and pay off debts and investments. Businesses report cash flow in a monthly, quarterly or annual cash flow statement. Here are some the key points it includes:
- Beginning and ending cash balances.
- How the business spent cash in a given period.
- Where the cash came from in a given period.
- Net increase or decrease in cash and cash equivalents. This shows up as the bottom line item in the statement.
What other reports should you use?
Cash flow is important, but it isn’t the ultimate measure of business performance. Consider your cash flow alongside other reports, like the income statement and balance sheet, for a more complete picture. Here's a rundown of what each covers:
- Balance sheet: Displays totals assets and liabilities.
- Income statement: Shows the business's profitability during a specific period.
- Cash flow statement: Resolves the other two statements by showing whether revenues have been collected and expenses paid.
For consistency, confirm the ending cash flow balance always equals the cash amount on the balance sheet.
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