While there are many uncertainties when planning for the future, one factor that is almost always essential to the success of your future plans is cash flow. Measuring your company’s cash flow and knowing what aspects of your business can be affected by the health of your cash flow are even more crucial in today’s economy. Having an accurate representation of your cash flow can also make or break your plans for the future, including any ideas you might have about backing away, transitioning ownership, delegating management responsibility, or an outright sale of your business. Since you can’t escape the impact of cash flow, you might as well take it head on, right?
What is Cash Flow
While there are many ways to think about cash flow, the concept that might work for business planning purposes is free cash flow. Free cash flow is the portion of the annual net cash flow from operating activities that remains available for discretionary purposes after the business has met its basic financial obligations. In this discussion, the “discretionary purpose” could be any anticipated use of cash flow to support the business or personal goals and objectives of the owners of a closely-held business. So, free cash flow might be supporting new initiatives, return on investment for current or new owners, cash-based incentive compensation plans, or the buy-out of one or more owners. In other words, cash flow can be described as the engine that powers your plans for the future.
Importance of Cash Flow
Cash flow is so essential because it impacts just about every aspect of your current and future business operations and planning. Cash flow can affect the value of your business, the magnitude of risk associated with the business, and the business’ ability to manage debt or fund growth.
As much as we don’t want to admit it, cash flow is the lifeblood of a company. Owners must understand —and be able to measure —where cash comes from and where it goes. It is an accurate indicator of the financial health of your business. Unlike more subjective measures, it makes no assumptions and entertains no preconceptions.
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