Cash flow definition

There are two main ways to think about cash flow. The first is the textbook definition: Cash flow is the incomings and outgoings of cash that represent the operating activities of your business. 

While that definition of cash flow is accurate, it doesn’t tell the whole story. It’s also important to understand what cash flow means in the real world and how it affects your ability to pay your bills and expenses, return money to shareholders, and reinvest in your business. 

What is cash flow and why is it important?

You can think of your cash flow as a picture of your bank account over time. If more money comes in than goes out, your cash flow is positive. If more goes out than comes in, it’s negative. 

Negative cash flow over the long-term could lead to a business struggling or failing altogether. That’s why it’s so important to manage your cash flow by balancing when you’re paid versus when you pay others. It’s great if a client places a big order, but until the order becomes cash in your bank account, your cash flow (and ability to pay bills, expenses, and ultimately make a profit) is limited. 

A healthy cash flow is vital not just for the day-to-day running of your firm, but also to fund growth by raising new capital to fund the expansion of the business and hiring new talent. 

Why cash flow analysis matters

If you leave your cash flow management to chance or guesswork, you could end up with negative cash flow at times when it isn’t strictly necessary. Instead, cash flow analysis can help you spot trends in cash management using a snapshot of your business’s cash flow.

Your cash flow statement should form the heart of the analysis. It captures your:

1. operating activities (e.g. revenue from selling products or services)

2. investing activities (e.g. gains or losses from investments)

3. financing activities (e.g. borrowed money)

By looking at previous quarters, you can project future revenue. These projections will help reveal if you need to cut expenses or fight hard for extra sales to maintain positive cash flow. You’ll also be able to see if delayed payments from clients often cause cash shortfalls in your business. 

To ensure that you’re not spending all your time chasing invoices, you need to stay on top of what you owe and what is owed to you. It is important to know key metrics such as how long it takes to get paid after a sale; how long it takes you to pay what you owe and how long it takes for you to turn inventory into sales.

How to improve cash flow by managing payments

Many professional services firms are on retainers, but if not, customers will take as long to pay you as they can. You can get ahead of the game by billing early, asking for deposits upfront and encouraging them to pay more quickly by offering a discount for early payments.

When it comes to your own bills, the longer you can take to pay, the better it is for your cash flow, but you have to strike a balance between having that cash available and keeping your creditors happy.

With American Express, you can have up to 54 day payment terms1 allowing you to keep your suppliers happy by paying them on time. This can help reduce the need for external financing while giving you a more stable and predictable cashflow.

1. The maximum payment period on purchases is 54 calendar days on Gold & Platinum Business Charge Cards and 42 calendar days on the Basic Business Charge Card, it is obtained only if you spend on the first day of the new statement period and repay the balance in full on the due date.