Cash Flow Analysis Definition

Cash flow is simply the flow of cash through the organization over time. In the case of businesses that are run for profit, cash is paid out in return for the labor and materials that are used to provide goods and services that can be sold. The revenues received provide cash that can then be used to finance further production and sales as well as increasing the organization's economic value.

Cash flows are also essential for nonprofit organizations such as charities, schools, and hospitals that need to meet the various ongoing expenses associated with providing their services.

As a manager, you need to understand how cash flows are generated and what factors impact those flows. This knowledge is an integral part of making financial decisions that increase a firm's economic value or the capabilities of a nonprofit organization.

The management of cash flow is one part of a larger management responsibility known as the management of working capital, which refers to the operating liquidity available to an organization.

Defining working capital

An organization can have assets and profitability, but find itself short of liquidity if its assets cannot readily be converted into cash.

Working capital is required to ensure that the organization is able to continue its operations and that it has sufficient funds to satisfy operational expenses and any maturing short-term debt. The management of working capital involves managing the four following aspects of an organization's operations:

• Inventories (stock, work-in-progress and finished goods)
• Accounts receivable (debts that are owed to the organization)
• Accounts payable (money the organization owes to its suppliers)
• Cash

Effective management of working capital will increase the profitability of the organization. It also enables managers to concentrate on their jobs without worrying too much about the potential for insolvency.

Effective management of working capital

It can also reduce the amount of capital needed to run the enterprise, so even if you work in the nonprofit sector it is still an important consideration.

You may also be interested in:
Managing Working Capital | Cash Flow | Changes in the Cash Account | Direct Format Cash Flow Statement | Indirect Format Cash Flow Statement | Cash Flow from Operations | Cash Flow from Investments | Cash Flow from Financing.


Key Points

  • Cash flow is simply the flow of cash through the organization over time.
  • Working capital is required to ensure that the organization is able to continue its day-to-day operations.
  • The management of working capital involves actively controlling inventories, accounts receivable, accounts payable, and cash.
  • The effective management of working capital can increase profitability in the private sector and reduce the amount of capital required by nonprofit organizations.
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