Cash flow in a business enterprise refers to not just the operating of the business, but how well it collects and pays its debts and how its money is used.
Companies that prepare financial statements under Generally Accepted Accounting Principles (GAAP) must prepare a Statement of Cash Flow in addition to the more widely known Income Statement and Balance Sheet. The statement provides a link between the Net Income reported on the income statement to the final cash balance shown on the balance sheet.
A cash flow statement can be thought of as having three constituent parts. The first is the starting point of Net Income and the removal of non-cash items therefrom. The second part concerns the overall operating aspects of the business and their impact on cash. The final is the effect of long term financing and investing decisions such as the issue of capital, debt, repayment of debt, dividends and capital expenditure.
Operating cash flow shows the cash flow that the business generated, or used, in the day-to-day operations of its business. Key factors in generating operating cash flow are the control of accounts receivable and inventory levels. If the operating cash flow of a business is significantly different from its accounting income, the reason should be investigated. While there are many legitimate reasons for the two to diverge, this simple test can often lead to the discovery of inappropriate accounting.
- A certain amount of capital is expended or used up over time. This is called depreciation in the U.S. Tax Code. Capital expenditure is not to be confused with budgeting for capital investment, sometimes called capital expense.
- typically overhead, payroll, inventory replenishment, debt service, taxes etc.