SMEs: Essence of cash flow

As the coronavirus pandemic continues to affect economies, businesses and household globally, the impact has been severe, and the world is grappling with the negative consequences. The cash flow of a company is a crucial factor that enhances business operations at this time. To achieve long-term success, Small Medium Enterprises (SMEs), including large firms, must pay close attention to their cash flow. The cash flow portrays how companies receive or spend cash.

It is also one measurement for evaluating firm stability, strength, and future ability to generate cash flows. A business must have adequate cash on hand to pay for operations, liabilities and borrowed funds, and to make investments. Having cash is a crucial requirement for a business to stay solvent. When a business no longer has enough cash to pay its dues, it is often declared bankrupt.

Cash flow is the net amount of cash and cash-equivalents being transferred into and out of business. Cash equivalents are items that are similar to cash or can easily be sold and turned to cash. Examples are short-term investment bills, stocks and unfinished goods in-store and marketable securities with less than 90 days maturities (commercial papers, treasury bills and short-term government bonds). A good quality cash equivalent does not usually include equity or stock holdings because it can fluctuate in value with some associated risk elements. It is imperative to state that both cash and cash equivalent are usually referred to as current assets in the balance sheet of a company, meaning they are the most liquid of short-term assets.

That said, the cash flow statement’s primary purpose is to provide information regarding a company’s cash receipts and cash payment in various sources. A secondary purpose of the cash flow statement is to provide information about a company’s operating, investing, and financing activities. Because of the importance of this concept, International Financial Reporting Standards (IFRS) require that companies distinctively report cash flow statement in the annual reports.

Cash flow statement is necessary for a financial statement for companies to summarize the amount of cash and cash equivalents entering and leaving the company’s coffers. Therefore, expectedly the cash flow statement is usually presented as a separate financial statement that provides additional information for evaluating the solvency and liquidity of SMEs or any business entity. Cash flow statement is often used in tandem, and it complements the balance sheet and income statement. It is a mandatory part of a company’s financial reports since 1987 and the third component of a company’s financial statements.

The cash flow statement measures how well a company manages its cash position, meaning how well the company generates cash to pay its debt obligations and fund its operating expenses. The cash flow report is essential because it informs the reader of the business cash position.

The places where cashflow are required in any business entity are in the operating activities (such as proceed from sales, salary and wage payments to employees, rent, cash recovered from good sold on credit and payment made for purchases). A cash flow deficiency from operating, investing or financing activities could lead to poor overall cash flow performance, meaning reduced cash inflow and increased cash outflow, which could lead to a shrinking cash reserve. Insufficient cash on hand could have dire consequences for businesses.

In the end, a business must have enough cash to pay for operating expenses, capital expenditures and any borrowing costs. To ensure an adequate cash flow performance in all areas of business activities, a business must effectively manage sales, investment holdings and fundraising activities to achieve maximum cash inflow and maintain an optimal level of cash reserves.

Although cash flow is essential if a business entity is to continue in operation, in general, it is misconstrued with liquidity which is the ability of a company to meet its current liabilities using its current assets, especially its obligations when it falls due. Cash flows are a more direct measure of liquidity and a contributing factor in corporate performance. The novel coronavirus (COVID19) has brought about stiff cash flow issues that companies need to work on because any ongoing and unattended cash flow concerns could have a generally negative impact on a business’s overall performance. Cash represents the firm’s vascular system; if it dwindles, the business will not survive. So, with the current realities with COVID-19,  companies need to pay extra attention to cash flow and see that it remains positive at all times.

If cash inflow exceeds cash outflow, the business is said to have positive cash flow, while for the opposite, the business will have a negative outflow. Cash flow is relatively different from profit because it only involves the availability of cash for business spending and most times cash transaction activities. The fact that a firm is profitable does not mean that it is also solvent. The profit is not cash

It is imperative to state that cash flow statement and information assist the financial statement users in obtaining the relevant information concerning the use of resources of virtually the entire financial resources over a given time period of a business. The cash flow statement allows investors to understand how a company’s operations are running, where its money is coming from, and how money is being spent. The cash flow can help determine whether a company is on a solid financial footing.

In conclusion, are you having serial challenges around your business or company’s cash flow management even after employing a professional? Can you tell if your business is actually profitable? Are you having difficulties distinguishing among cash flow, profit or even liquidity of your organization? Do you have the necessary records in case of any audit exercise or performance review? You might need to reach out using the details for the aforementioned essential advice. Good Luck!

Dr Olubiyi, entrepreneurship and small business management expert, wrote via drtimiolubiyi@gmail.com

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