Do you need help understanding your cash flow report? If so, find you most recent cash flow report. We’ll cover the basics and answer a few of the most common questions. To answer the question about whether your company had enough money to pay its bills this month, look at Net Cash After Operations. If the amount is positive, the answer is yes! Great!
If the amount is negative, your company did not generate enough cash this month to pay all the overhead. Obviously, this is a situation you will want to correct. Your next move is to determine why the cash was not sufficient.
Look first at the effect on cash from accounts receivable, inventory and payables management. These are often the culprits. If receivable or inventory increases caused a cash drain this month, check your collection days and supply days.
If the days are stable from last month, your increases are due to sales activity or price increases. The cash drain will naturally subside quickly. If the days are up, take active measure to reduce them again.
If the net effect (we call this the Critical Factor) of receivables, inventory and payables is greater than zero, but you have a negative amount in Net Cash After Operations, you may have a profit-driven problem. Check your income statement to see if your gross profit has dropped, or your operating expenses have increased.
Next, check the prepaid and accrued expense columns for the effect on your cash. The general rule of thumb is to eliminate prepaid expenses and maximize accrued expenses to optimize cash flow.
Sometimes cash flow is impacted by Miscellaneous Income and Expenses. Seemingly innocuous items added or deleted from a balance sheet can drastically impact cash flow.
The Net Cash After Operations line is most critical to lenders. It lets them know if you had enough cash after paying your bills to pay them!
Interest expense is a line item on your income statement, however, principal reductions to your loans don’t show up anywhere on the income statement. The cash flow report is typically the only way to know if you generated enough cash to comfortably make your loan payments.
Bankers like a company’s net cash after operations to be 1.5 times the debt payments (P&I).
If a company did not generate enough cash to pay the bills and pay its lenders, the Cash After Debt Amortization will be a negative amount.
The next section of the cash flow report shows your asset purchases. We segregate tangible versus intangible purchases. Intangibles typically include franchise fees, customer lists, and dealer contract expenses. Creditors are not fond of intangibles and will normally discount their value.
For most companies, no matter how good your cash flow, once you spend big dollars on new fixed assets, you will have a negative amount in the line titled Financing Need or Surplus.
To see if you managed your financing appropriately, keep in mind that long term debt should be used to fund your capital expenditures (using 75% loan to asset value is a good rule of thumb). Short term debt should be used to fund temporary increases in receivables and inventory.
Any time you’ve had a really good cash flow month and there was a Surplus, that excess cash should be used to pay down your revolving line of credit (listed as short term debt on the cash flow statement).
Any amount in Change in Equity is usually an indicator of an accounting error. Unless you had prior period adjustment, injected new capital, took in Treasury stock, or some other equity transaction, this line should always be zero. Research any other amounts.
In summary, by using your cash flow report to diagnose cash drains and taking immediate corrective action the following month, your “Actual Change in Cash”, will be a nice, big positive number!
