What is cash flow analysis?

Introduction to cash flow analysis

Cash flow analysis is your company’s financial health check. It examines the inflow and outflow of cash over a given time to ascertain whether your business can meet its financial obligations and maintain day-to-day operations.

One of the main reasons for analyzing cash flow is to establish a company's cash position. By assessing inflows and outflows over a specific period of time, you can update a company's cash position based on what has occurred since it was last calculated. Cash flow analysis, therefore, is one of the key steps in the cash positioning process. You can access a detailed guide to cash positioning here.

How you actually perform cash flow analysis depends on the tooling available to you. Traditionally, cash flow has been analyzed manually at specific intervals, such as at the end of the day or month, for the purpose of creating and updating a company's cash flow statement. Nowadays, there are technology solutions (like Atlar) that automatically compile your inflows and outflows over a given period of time and provide cash flow reports that are always up-to-date.

‍

A typical cash flow analysis process

Analyzing your cash flow manually involves compiling and verifying large amounts of data on inflows and outflows over a period of time. This enables you to calculate the total outflow, subtract it from the total inflow, and apply the resulting net total to your prior cash balance. This gives you your present cash position, accurate to a specific moment in time.

Here's how this process looks when performed manually:

1. Retrieve the most recent cash position from the cash flow statement, a financial document that is usually prepared on an annual basis to provide a snapshot of the company’s cash reserves.‍
2. Review the previous cash position and consider any additional inflows and outflows that have occurred since then in order to account for the elapsed time.‍
3. Locate bank statements for the corresponding period and reconcile them with the company’s ledger to verify their accuracy.‍
4. Analyze inflows and outflows by reviewing bank statements, sales income, operational expenditures, loan repayments, investments, and any other cash-related activities.
5. ‍Calculate the current cash position by adding total inflows to and deducting total outflows from the prior cash balance.

‍

The cash flow statement

Cash flow analysis is often performed for the purpose of preparing a cash flow statement. The cash flow statement is a key financial statement which shows the inflow and outflow of cash in your business. When combined with your income statement and balance sheet, the cash flow statement will provide a comprehensive picture of your company’s performance at a given time.

Public companies are required to submit a cash flow statement as part of their periodic reporting requirements and banks, venture capitalists, and other financing sources typically require it when evaluating a request for financing.

A cash flow statement records the cash (and cash equivalents) that is entering and leaving a company. Businesses use cash flow statements to get a detailed picture of their cash position, which is essential to a company’s financial health.

‍

Components of cash flow analysis

Whether you're analyzing your cash flow on an ad hoc basis or preparing to submit a cash flow statement, you will typically group your inflows and outflows into the income and expenditure categories listed below.

Operating cash flow: This is the cash that’s generated and consumed by your core business activities. It includes: 

• Revenue from sales
• Payments from customers
• Operating expenses
• Taxes 

A positive operating cash flow illustrates that you are consistently generating enough cash to cover your day-to-day expenses and support your growth.

Investing cash flow: This represents the cash used for purchasing and selling long-term assets such as property or other investments. A negative investment cash flow can be a good thing as it shows a recent investment or acquisition. A positive investment cash flow, on the other hand, indicates a sale of assets or a divestiture.

Financing cash flows: This reflects transactions related to your company’s capital structure. It includes debt, equity, loan repayment, dividend payments, and share repurchases. Positive financial cash flow might indicate external financing. Negative financing cash flow might be the result of debt repayment or shareholder payments.

‍

Cash flow analysis in action

Cash flow analysis ensures that your business operates efficiently and helps you plan your growth more effectively. Below are a few examples of cash flow analysis in action.

Liquidity assessment: This determines if you can meet your immediate financial obligations such as office expenses and payroll. By examining what needs to be paid to whom and when you can assess whether you have enough cash in the bank to meet these commitments.

Calculating solvency ratio: This is a key metric to measure your ability to meet your long-term obligations and is commonly used by prospective business lenders. By assessing the consistency and predictability of your cash flow, they can gauge whether you’re generating enough income to be viable in the long term. 

Solvency ratios include:

• Debt-to-assets ratio
• Interest coverage ratio
• Equity ratio
• Debt-to-equity ratio

Investor relations: A healthy balance book is critical for demonstrating to potential investors that you are financially stable and have the resources needed to realize your growth ambitions.

Operational efficiency: Analyzing cash flow allows you to identify areas where you can optimize the process and improve operational efficiency. For example, by understanding the outflow of your cash, you can potentially find ways of reducing costs. Or you might find a way of aligning accounts receivable and accounts payable to ensure that plenty of cash comes in before it needs to be paid out.

Forecasting and planning: Cash flow analysis draws on historical data to project your future cash flow. When combined with anticipated changes to your operations (such as expanding to a new market) you can develop budgets, set targets, and make key strategic decisions about your future growth.

‍

Two methods for cash flow analysis

At a high level, there are two methods when it comes to cash flow analysis, the direct and the indirect method.

‍Direct method

‍This involves directly tracking inflow and outflow from activities such as payments from customers and payments to suppliers and employees. This method provides a more detailed view of operating cash flows. But it also requires access to comprehensive transaction data and can be more time-consuming to implement.

Indirect method

‍This method begins with your net income from the income statement and then adjusts for non-cash items and changes in working capital. The result is your operating cash flow. This is much easier since it relies on readily available financial statements. But it doesn't show the underlying driver of your cash flow and you will need to pair it with analysis of your reconciliation reports for a complete picture.

‍

How Atlar can help with your cash flow analysis

Manually logging into online bank portals and analyzing cash flow manually in spreadsheets is simply inefficient as a company scales. Not only is it time-consuming, it’s impossible to generate cash insights in real time – limiting a company’s cash management strategies.

Atlar provides customers like Acne Studios, GetYourGuide, and Forto with a single platform that consolidates all cash flow globally with user-friendly reporting and analysis tools. To learn more about how Atlar helps automate cash flow analysis, see our cash positioning and cash reporting feature pages or read our in-depth guide to cash positioning.