Don’t be fooled by the fancy business lingo, a cash flow analysis is much simpler than it sounds. Basically, this is simply the process of taking the time to look into where your cash is coming from and where it is going out of your business, making adjustments based on these findings. When you analyze your cash flow regularly, it can make a big difference to your small business. In this article, we’ll dive into how to perform a cash flow analysis and why it’s important to the financial health of your business. 

What is Cash Flow Analysis? 

A cash flow analysis refers to how money ‘flows’ in and out of your business during a predetermined time. This activity seeks to find the answer to questions like ‘where is the money coming from?’  ‘when does my business typically have extra cash flow?’ and ‘when is money tight?’. 

The goal is for you as a business owner to get a better understanding of how much cash you have at any given time. This will put you in a better position to make educated financial decisions. 

Why Do You Need Cash Flow Analysis?

A cash flow analysis is something every small business should do routinely. This activity helps you keep a pulse on your finances, so you can look after your business’ financial health. 

A cash flow analysis will tell you whether you’ll be able to make payroll, pay your suppliers, buy materials and make expansions on your business. 

Cash flow is the key ingredient in what makes a business run smoothly. This is something you should never leave up to chance after all running short of cash is one of the most common ways that businesses fail. 

By regularly managing your cash flow and performing cash flow analyses you can avoid this common pitfall. 

The following are a list of ways a cash flow analysis can help you better manage your business:

Provides Insight into Operations

A cash flow analysis will give you a well-rounded picture of how your business is successfully or unsuccessfully operating. Basically, by analyzing your cash flow you can figure out whether things are working or if you need to make some changes to make your business more profitable.  

One key point you’ll want to examine when undertaking a cash flow analysis is where your money is going. For example, if your analysis shows that a significant percentage of your cash flow is tied up in overdue or late payments from customers, you may want to revise how you collect payments to free up some of this money. 

By getting a better understanding of your cash flow you’ll also be able to make more educated decisions when it comes to achieving your short and long term financial goals. If you are a restaurant wanting to invest in a new oven, you’ll want to examine cashflow to see when this is possible without cutting into other expenses. An example of a more long term goal is that you might want to progressively grow your team over time, if your analyses are showing a steady increase in cash flow, you can justifiably plan to add someone new to your payroll. 

Keep a Thumb on External Tools

If you outsource functions that are vital to your business’s operations, a cash flow analysis can help you keep track of how much money you are allotting for each role. Being aware of how much you’re spending can help you understand if you’re getting a reasonable return on your investment. 

For example, you might have hired a marketing company to help your business grow. A regular cash flow analysis will demonstrate whether this marketing company is bringing in enough new business to warrant the spend. 

On a smaller scale, you may have invested in a handful of business management tools, like payroll platforms and accounting software. A cash flow analysis will help you keep track of how much you are spending on these tools and might prompt you to look into alternative, more cost-effective options. 

North One can help you better manage external business tools by allowing you to seamlessly integrate your financial reporting with third parties like bookkeepers and accountants. 

Offers Documentation for Financial Assistance

Performing a regular cash flow analysis of your business not only helps you stay on top of your finances but can also help to ensure your finances are organized and transparent. This is particularly important if at any point your business needs additional outside assistance. 

Take the current pandemic as an example. Many businesses have suffered due to the COVID-19 outbreak and are seeking financial assistance through government relief programs. To be eligible for these programs businesses need to provide proof of cash flow to demonstrate how the crisis has affected business.  Some examples of these programs include the Paycheck Protection Program and Self Employment Assistance Program. The SBA also has a variety of loan opportunities set up to provide support to businesses during this difficult time. To be eligible for any of this financial assistance, you will need to provide proof of cash flow. 

How to Do A Cash Flow Analysis

Now that we’ve explored what your business can get out of performing regular cash flow analyses, let’s break down how you actually do it. 

Prepare your Cash Flow Statement

A cash flow analysis starts with a ‘cash flow statement’. This statement combines your balance sheets and your income to determine how well your company is managing financially. A cash flow statement or CFS is a measure of strength, profitability and of long term future outlook for the company. Once you’ve put together a CFS you’ll be able to further analyze these results and see where changes can be made to improve your business, or where there might be an opportunity to grow. 

Add in Cash Inflows and Outflows

Fill in the cash flow statement with where the money is coming in (inflow) and where it is leaving the business (outflow). You can organise this statement into three categories: operating activities, investment activities, and financing activities. 

There are plenty of cash flow statement templates available. If you want to create your own, be sure to include the following: 

  1. Cash from operating activities
  • Receipts from sales of goods and services
  • Interest payments
  • Income tax payments
  • Payments made to third parties, like suppliers and services relied on to deliver your product
  • Salary and wage payments to employees
  • property payments (rent or mortgage)

2. Cash from investing activities

  • Purchase or sale of an asset
  • Changes in equipment

3. Cash from financing activities

  • Cash from investors
  • Cash from banks
  • Cash paid to shareholders
  • Loan repayment 

Analyze Your Cash Flows from Operations

While negative cash flow from operations every once in a while is not the end of the world, you want to have positive cash flow as often as possible as this shows your business is making a healthy sustainable profit. If you find you have negative cash flow, use this as a helpful insight and try to make adjustments to the cost of your operations in order to optimize profit. 

In the longer term, what you want to get out of a cash flow analysis is to be able to see an increase in positive cash flow operation quarterly or annually. This is how businesses grow. 

Analyze Your Cash Flows from Outstanding Income

One of the biggest challenges that businesses face is outstanding debt from customers. This can dramatically reduce the overall cash flow. 

If your cash flow statement shows that outstanding customer debt is impacting your cash flow you’ll want to make adjustments to how you receive customer payments. 

One way to do this is to prioritize invoicing. A smooth and agile invoicing process will help you keep track of when you receive payments and send reminders when you don’t. 

Summarize Your Cash Flow

Once you have calculated your cash flow for your chosen period, you can make educated decisions about what actions you need to take to better support your business. Some actions that you might want to improve cash flow include: 

Tips for Mastering A Cash Flow Analysis

Now that you know how to do a cash flow analysis, it’s time to become a master. 

Use an Accounting System

It probably goes without saying, but to make the process of cash flow analysis as painless as possible you’ll need to keep on top of accounting. To do this you can get help from a third-party accountant. If hiring an accountant is not in your budget, there are a lot of affordable accounting software options available. This software can help you stay on top of your money and make sure figures in your cash flow statements are accurate and up to date. 

Do a Cash Flow Analysis on a Monthly Basis 

While it might seem like a bit of a chore to do a monthly cash flow analysis, you’ll thank yourself for putting in the effort later on. Committing to a monthly analysis will help monitor your finances much more closely and take the guesswork out of decisions you make within your business. 

This is particularly important for small businesses as they can be dramatically affected by changes in finances more so than bigger corporations. By staying on top of your cash flow you can solve problems before they become detrimental to your business. 

Keep Track of Outstanding Payments 

It is extremely important to make sure you are keeping track of outstanding payments. Luckily there are a number of ways you can do this easily using invoicing software, including North One, Invoice builder that lets you track payments and send payment reminders.

 Keeping clear documentation of outstanding payments will help you stay on top of debt owed to you, encourage you to collect those payments, and prevent these outstanding payments from dragging down your cash flow. 

Use your Analysis to Inform New Strategies

Now that you have a regular cash flow analysis in place, it’s time to use it! Taking the time to do your financial reporting will offer insight into your current financial situation. This information should be used to inform how you make budgeting decisions that can increase cash flow over time.

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