Understanding corporate cash flow: types, management principles and skills
- •What is cash flow?
- •Why do companies need to manage cash flow?
- •What are the different types of cash flow?
- •Four principles of managing cash flow
- •Four key tips for managing cash flow effectively
- •Potential challenges when managing cash flow
- •How can accounting software simplify cash flow management?
- •Frequently asked questions
Cash flow is a crucial aspect of corporate management. It allows businesses to grasp the liquidity and profitability of their funds so that they can better evaluate their financial situation and make wise decisions.
What is cash flow?
Cash flow means the inflow and outflow of cash and cash equivalents generated by various activities, such as operations, investments and financing, within a certain period of time.
Why do companies need to manage cash flow?
The importance of managing cash flow
Aside from maintaining the daily operations of a business, cash flow is also a standard for evaluating the financial foundation of a company. It may not necessarily reflect the company’s profitability, but it shows liquidity.
Practical roles of managing cash flow
1. Purchasing raw materials for production or providing services
Having a good cash flow allows a company to budget for the expenses of purchasing raw materials or providing services. For example, evaluating whether they have enough resources to fulfil orders when the costs of raw materials rise.
2. Paying employees’ salaries on time
Effective management of cash flow would ensure that a company has sufficient cash reserves to pay employee salaries. Failure to pay salaries on time could result in employee dissatisfaction and affect work quality and daily operations.
3. Minimising the risk of bankruptcy
Healthy cash flow management can prevent a company from being forced to cease operation or facing bankruptcy. Amid the constantly changing market and economic environment, having sufficient reserves helps businesses deal with emergencies, such as sharp increases in raw material and transportation costs. Clear cash flow management also helps management identify the root of operational issues by tracking where the money comes from and where it goes. For instance, companies can implement targeted measures if they find out that frequent customer payment delays are the reasons why they are unable to pay employees’ salaries or repay loans.
4. Planning for long-term development
Businesses can make reasonable financial plans and seize opportunities if they have a clearer picture of their cash flow. For example, they can evaluate when is the best time to expand business operations and what types of investment should be made at different stages.
What are the different types of cash flow?
Companies usually have three types of cash flow. They are cash flow from operating activities, investing activities and financing activities.
Cash flow from | What is it? | Example |
|---|---|---|
Operating activities | Cash earned or spent in daily operations | Inflows: Revenue from selling goods or providing services Outflows: Expenses such as store rent and employee salaries |
Investing activities | Purchase of assets such as property and equipment, investing in equities, etc. “Capital Expenditure” - Ongoing expenses related to operational assets | Inflows: Interest income Outflows: Purchases of real estate, investments in subsidiaries, acquisition of operational assets |
Financing activities | Cash obtained or paid through loans or fundraising Cash payments to lenders and shareholders | Inflows: Bank loans, fundraising Outflow: Interest payments, principal repayments, etc. |
Four principles of managing cash flow
1. System
Cash flow management should be consistent, unified and coordinated with purposeful and holistic decisions as cash flow reflects the comprehensive operational status of a company.
2. Balance
Cash flow management should maintain a balance in terms of amount and time, cost and revenue.
Amount and time: As inflows and outflows occur simultaneously, it is necessary to avoid situations where income does not cover expenses.
Proportion: It is important to calculate the proportions of various cash outflows and inflows to maintain overall balance.
Dynamic balance: Instead of the basic static balance, i.e. equalising cash outflows and inflows, the dynamic balance emphasizes that a company can only operate and develop healthily with cash remaining in a dynamic equilibrium.
3. Cost-effectiveness
The principle means that the income generated from cash flow should exceed the costs. Sometimes, it may be necessary to adopt financing methods with higher short-term costs in exchange for long-term benefits.
4. Flexibility
Due to the fluctuating and ever-changing business environment, there should be adjustable space left in the budget for unexpected needs, such as investment opportunities or unforeseeable challenges.
Four key tips for managing cash flow effectively
1. Optimise management of receivables and payables
Effective management of receivables can prevent bad debts. Invoices should be issued promptly upon transactions with customers with clear payment terms set. Employees should also stay alert when dealing with large bills and repayments.
2. Control expenses
Aside from regularly monitoring expenses in daily operations. Companies should also consider the potential impact on their cash flow before making large investments or expanding business activities.
3. Build cash reserves
Maintain a certain amount of cash reserves to help companies deal with unexpected events.
4. Utilise technology
Companies can enhance their management efficiency and accuracy by using technologies such as cloud computing and data analysis, etc.
They can also use electronic cash flow management software, or all-in-one financial and remittance platforms like Airwallex. Aside from opening a multi-currency account, companies can also monitor employee expenses on the platform in real time.
Potential challenges when managing cash flow
1. Customer payment delays
When customers delay payments, cash inflow reduces. This may negatively impact small and medium-sized enterprises with limited working capital.
2. Insufficient cash reserves
A lot of companies struggle to maintain sufficient cash reserves. According to a study by JP Morgan, small and medium-sized enterprises that responded to the survey only have 27 cash buffer days to cover cash outflows if cash flow stops coming in.
3. Inventory backlog
Excessive inventory may slow down cash inflow and tie up funds that could generate revenue in tangible assets, causing sluggish business growth.
4. Overly rapid business expansion
Business expansions such as hiring new staff, investing in infrastructure and new technology often result in increased operational expenses. Companies may underestimate the impact of rushing expansion efforts on cash flow, resulting in financial risks eventually.
How can accounting software simplify cash flow management?
Save up costs on time and labour: By automating many financial tasks like transaction recording and report preparation
Improve record accuracy: Automated reconciliations, reducing human errors and enhancing accuracy
Enhance financial transparency: Helps companies manage daily bookkeeping and expenses and allows for timely adjustments to financial strategies
Formulate wise financial strategies: some accounting software has financial control features, such as budgeting and risk assessment, which can help companies devise appropriate strategies
Ensure business compliance: Helps to organise complex financial data and documents and facilitates auditors in preparing audit reports and filing taxes.
How to choose a software that fits your business?
Businesses can choose based on factors such as support for different currencies, compliance features, cost and offline usability, etc.
Integrate accounting software with Airwallex to manage funds
Airwallex’s all-in-one financial management platform helps businesses simplify global fund management processes and enhance efficiency and accuracy. Below are the benefits of opening a global business account for free on Airwallex:
Speed up reconciliation: After integrating your Airwallex business account with your accounting system, all payments and funds received will automatically sync. This accelerates monthly reconciliations and reduces recording errors.
Real-time expense tracking: You can issue company cards and employee cards for your team in just a few minutes. All card transactions will automatically sync to your accounting system upon invoice uploading and approval.
Centralised management of multi-currency funds: Airwallex’s global business account allows you to send and receive payments in over 23 currencies on a single platform.
Open a global business account online now with no monthly fees or hidden charges!
Frequently asked questions
What is a cash flow statement?
A cash flow statement records all cash inflows and outflows of a business within a certain period of time, including the cash flow for operating, investment and financing activities.
What is the difference between cash flow and accounts payable?
Cash flow only accounts for actual funds that have been received or disbursed, while account payable usually refers to a company’s short-term debts and liabilities, usually contractually owed but not yet paid, such as an outstanding amount that is supposed to be paid to the supplier every month for goods.
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