Every small-business owner knows that cash is king, but unfortunately many face problems at some point. So how can you keep track of the cash that flows in and out of your business every day? What tools can you use to help ensure your business has enough cash, not just to survive from month to month, but to grow and expand? And what metrics will lenders and investors want to see when deciding whether to provide your business with essential finance?
Here’s a run-down of all the formulas that small-business owners can use to calculate cash flows.
How to Calculate Net Cash Flow
Net cash flow is the difference between all the company’s cash inflows and cash outflows in a given period. It’s a key indicator of a company’s financial health.
Net Cash-Flow Formula
To calculate net cash flow, simply subtract the total cash outflow by the total cash inflow.
Net Cash-Flow = Total Cash Inflows – Total Cash Outflows
Balancing cash inflow and outflow is vital to maintaining a healthy business.
Net Cash-Flow Example
If Company A had:
- $150,000 cash inflow
- $100,000 cash outflow
- Net cash flow would be $50,000.
Cash Inflow ($150,000) - Cash Outflow ($100,000) = Net Cash Flow ($50,000).
It’s also possible to calculate net cash flow by adding the total value of three variables that already account for cash inflows and outflows:
Net Cash Flow = Operating Cash Flow + Cash Flow from Financial Activities (Net) + Cash Flow from Investing Activities (Net)
How to Calculate Operating Cash Flow
Operating cash flow (OCF) gives a picture of the company’s ability to generate cash from its normal operations.
Operating Cash-Flow Formula
To calculate operating cash flow, add your net income and non-cash expenses, then subtract the change in working capital.
Operating Cash Flow = Net Income + Non-Cash Expenses – Change in Working Capital
These can all be found in a cash-flow statement.
Operating Cash-Flow Example
If Company B had:
- $250,000 net income
- $100,000 non-cash expenses
- $50,000 change in working capital
- Operating cash flow would be $300,000.
Net Income ($250,000) + Non-cash Expenses ($100,000) - Change in Working Capital ($50,000) = Operating Cash Flow ($300,000).
How to Calculate Cash Flow From Financing Activities
Cash flow from financing activities (CFF) is the net flow of cash between the company and its owners, creditors, and investors. It reflects the company’s financing mix.
Cash Flow From Financing Activities Formula
To calculate cash flow from financing activities, add your dividends paid to the repurchase of debt and equity, then subtract the total number from cash inflows from issuing equity or debt.
Financing Cash Flow = Cash Inflows From Issuing Equity or Debt - (Dividends Paid + Repurchase of Debt and Equity)
These can also be found in a cash-flow statement.
Cash Flow From Financing Activities Example
If Company C had:
- $150,000 cash inflows from issuing equity of debt
- $20,000 dividends paid
- $50,000 repurchase of debt and equity
- Cash flow from financing activities would be $80,000.
Cash Inflows from Issuing Equity of Debt ($150,000) - (Dividends Paid ($20,000) + Repurchase of Debt and Equity ($50,000)) = Cash Flow from Financing Activities ($80,000).
How to Calculate Cash Flow From Investing Activities
Cash flow from investing (CFI) is the net cash inflow or outflow from capital expenditures, mergers and acquisitions, and purchase/sale of marketable securities.
Cash Flow From Investing Activities Formula
To calculate cash flow from investing activities, add the purchases or sales of property and equipment, other businesses, and marketable securities.
CFI = Purchase/Sale of Property and Equipment + Purchase/Sale of Other Businesses + Purchase/Sale of Marketable Securities
These items are all listed in a cash-flow statement, but can also be identified by comparing non-current assets on the balance sheet over two periods.
Cash Flow From Investing Activities Example
If Company D had:
- $50,000 purchase/sale of property and equipment
- $75,000 purchase/sale of other businesses
- $25,000 purchase/sale of marketable securities
- Cash flow from investing activities would be $150,000.
Purchase/Sale of Property and Equipment ($50,000) + Purchase/Sale of Other Businesses ($75,000) + Purchase/Sale of Marketable Securities ($25,000) = Cash Flow from Investing Activities ($150,000).
Balancing cash inflow and outflow is vital to maintaining a healthy business.
How to Calculate Free Cash Flow
Free cash is the cash left over after the business has met all its obligations. It's essential to planning future spending as it shows how much cash a business has at its disposal.
Free Cash-Flow Formula
To calculate free cash flow, add your net income and non-cash expenses, then subtract your change in working capital and capital expenditure.
Free Cash Flow = Net Income + Non-Cash Expenses - Change in Working Capital - Capital Expenditure
Free Cash-Flow Example
If Company E had:
- $200,000 net income
- $100,000 non-cash expenses
- $125,000 increase in working capital
- $50,000 capital expenditure
- Free cash flow would be $125,000.
Net Income ($200,000) + Non-cash Expenses ($100,000) - Increase in Working Capital ($125,000) - Capital Expenses ($50,000) = Free Cash Flow ($125,000).
You can also calculate free cash flow (FCF) by taking the cash generated from normal business operations and subtracting capital expenditure, which is the money generated acquiring or maintaining fixed assets:
Free Cash Flow = Operating Cash Flow - Capital Expenditure
All this information can be obtained from an income statement.
- Net income is the bottom line.
- Non-cash expenses include depreciation, amortisation, and taxes.
- Working capital is the difference between the company’s current assets and liabilities.
Capital expenditure can also be found on a cash-flow statement. Basic FCF doesn’t include changes in debt, so when a company takes on new debt, basic free cash flow for that period can be misleadingly positive. Therefore, levered free cash flow, also known as free cash flow to equity (FCFE), can be more accurate.
FCFE = Free cash flow - (debt issued - debt repaid)
Debt issued and repaid in the period can be found on a cash-flow statement.
Investors use unlevered free cash flow, also known as free cash flow to the firm (FCFF), when estimating a company’s enterprise value. FCFF is a hypothetical measure of the free cash that the company would have available if it had no debt. It enables companies with very different capital structures to be directly compared for valuation purposes.
To calculate FCFF, first calculate earnings before interest and taxes (EBIT).
EBIT = Net income - Interest - Taxes
Now, recalculate the taxes line on the income statement to exclude the interest element (since interest on debt typically incurs tax relief). Then recalculate operating cash flow (see formula above) with the new tax figure. Finally, apply the FCF formula to give the FCFF figure.
Routinely calculating your cash flows using these formulas can help ensure you don't encounter any cash-flow problems and maintain an accurate picture of your business’s financial health.
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