Why does the first time business owner need to understand the cash flow in their business?
CASH is the foundation of the financial pyramid.
For employees, they need to work in exchange of their salary.
For a business owner, Cash is the lifeblood of a business.
Your business can operate smoothly if you have enough cash.
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What is Cash?
In business, it is a company’s current asset. It is a monetary value in coins and paper. They use it for trading goods and services.
Today, the Covid19 pandemic causes the limits of going out of people to shop or go to the grocery. The business innovates its payment method by introducing the cashless payment. They use th as a debit card, credit card, e-wallet, and online banking.
Cash Inflow and Cash Outflow
Cash has two forms: Cash Inflow and Cash outflow.
This is typically the cycle of cash in a business called a Cash Flow.
The owner focuses on the cash inflow of operation. When his cash inflow is less than the money spent, then something is not good, and he should take an action.
Before I go deeper, let’s understand the two forms.
It is a money collect of a business.
- Cash Sales – it is the payment of the buyer in exchange of cash. It is in the form of e-wallet, credit card, debit card, checks, coins, and bills.
- Accounts Receivable – In order for the owner to gain sales, he grants credit to his loyal customers in a time specified.
- Interest Earned – Most of the business owners have their account in a bank to deposit cash. At the end of the month, the bank gives an interest income to their fellow depositors.
A newly laundry business earned 40% of cash sales higher than the previous one. It means the owner has the potential to pay the business loan.
If you purchase equipment for cash, then your transaction is a cash outflow. It is a monetary movement where your cash gets out of your business.
This is in the form of:
- Expenses – various business expenses such as office supplies, payment for repair of the company’s car, purchase of goods, and transportation to/from banks and government agencies.
- Payroll – pay staffs for their work rendered in the company in exchange of cash.
- Employees benefits – a small business owner gives money to his staffs for reach their quota of the month.
Importance of Cash Flow in Business
A Cash Flow is a detailed report of the cash inflow and outflow of a business.
To make it understand, I will prepare you an example:
“A newly grocery store has a daily sale of P3,000 with P21,000 in a week. The owner purchase goods for his grocery worth P15,000 and pay the 2 staffs amount P3,000“
In the sample above, the owner has the following: cash inflow: weekly sales P21,000. cash outflow: purchases P15,000 and payroll of 2 staffs P3,000
To compute, deduct your cash outflow from cash inflow.
(P21,000 cash inflow – P18,000 cash outflow = P3,000 positive cash flow).
To summarize, you have money left added next week. A positive cash flow creates a healthy business because you can pay your loan or purchase additional goods for your business to increase sales.
Positive cash flow reflects a smooth business operation that the owner confident to pay another expense next week. Negative cash flow reflects a problem by an owner and eventually faces bankruptcy.
Cash Flow Forecast
To avoid bankruptcy, the owner should prepare a cash flow forecast. For a better outcome, it is best a longer projection for at least five years. A yearly cash flow forecast is enough for the new business owners.
Cash Flow Statement
When you summarize all the detailed reports from cash forecast, cash inflow, and the cash outflow, then the next thing to do is to prepare Cash Flow Statement.
A cash Flow Statement is a statement in which includes the detailed reports of your cash inflow and cash outflow
It acts as a bridge between the Income Statement and the Balance Sheet. These two financial statements reflect the cash position, generating cash to fund the expenses and pay your loan on time. This reflects of how you manage your cash effectively.
It depends of what type of your business is to prepare your statement. For essential goods such as foods and other basic needs and the grocery store, it is best to prepare monthly basis.
Related Post: Managing Personal Finance for Entrepreneurs
Cash is a monetary value coin and paper used as a medium to exchange goods and services.
It is a lifeblood of a business for it runs smoothly the business when an owner has a positive cash flow.
Cash Flow start with forecast, detailed reports of a cash inflow and outflow and prepare a statement.
In a statement, it reflects the results of your cash position and generate funds for your expenses will results of a positive and negative cash flow.
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Reference: Investopedia: Cash definition.