A business generally comprises of a number of operational processes. One of the most critical elements which a business organization must take into consideration is related to the aspect of finance. Finance along with marketing, human resource, and information technology comprises of the four pillars which every business demands upon. In order to maintain a sustainable business environment, corporate entities must actively take part in accounting so that all transactions can be recorded and tracked effectively.
Some of these financial operations generate revenue, while others lead to an outflow of cash and cash equivalents. A firm sells and buys fixed assets and investments, purchases goods, spends on advertisements, issues shares, and takes part in many such activities. Not only in the current year, but the firm predicts the flow of cash and cash equivalents in the upcoming years as well.
Planning and financing the upcoming projects will only be possible when the firm has a statement forecasting the amount of cash and cash equivalents the company has in hand. Planning for future vaguely, without forecasting cash in hand, may lead to a surplus of the shortfall in finance for the upcoming projects, hindering the growth of the business. Hence, a business needs a Cash Flow Forecast for the prediction of the flow of cash. By estimating the flow of cash, the advantages of a cash flow forecast are numerous.
Cash Flow Statement: A forecaster of cash and cash equivalents
A question arises- why is cash flow important? Cash is the principal need for the survival of a firm. A business firm needs cash to carry out its operations. Predicting the flow of cash is important for the survival of the firm i.e. to remain solvent. Cash flow management is an integral part of any business as it allows a company to effectively make investment decisions and pay off short and long term debt.
By forecasting the movement of cash in and out of the business, the statement gives a close estimate of surplus or deficiency in the cash and cash equivalents. With this estimate, the firm can arrange finance for its upcoming projects. The Statement of Profit and Loss can’t be an estimate of the cash movement as it involves a number of non-cash expenses and incomes.
Predictor of the investing power
Investing is a crucial activity for a business. Without investment, a company is likely to experience little or no growth. However, investments cannot be made by just splashing money and acquiring assets. Effective market research and efficient cash management are integral factors that must be acknowledged by every business before making the final decision of investment into a new venture. A firm needs to buy investments for earning profits. These investments can be shares, bonds, debentures, bills, etc. Cash Flow Statement will forecast the cash and cash equivalents left with the firm in order to purchase these investments.
The closing balance of the “Investing Activities” of the Cash Flow Statement will show the inflow/outflow of cash through investing activities of the firm. The cash flow forecast for a startup business is even more necessary.
Cash Flow Statement: A financial planner and an indicator of future financial liabilities
A firm may not have sufficient cash for financing a project. The firm might not be willing to sell its investments or even after selling them, the firm is unable to generate enough cash for the finance.
In this case, the firm might take a loan or issue shares or debentures. Hence, the liabilities of the firm might increase in the future. A Cash Flow Statement will provide an estimate of the amount by which the liabilities of the firm might increase.
A statement to the external stakeholders
The external stakeholders in the firm are interested in the plans of the firm. The creditors, the bank, the shareholders, and others need to be updated about how the firm is going to use the cash and cash equivalents. A Cash Flow Statement with a good inflow of cash will ensure the safety and stability of the stakeholders.
A Cash Flow statement is an indicator of the solvency of the enterprise and is an excellent tool for estimating the growth rate of the firm. It is a technique that will allow the company to take calculated risks by taking part in investments. Thus, forecasting and managing cash flow is an essential factor that every listed business must acknowledge in order to grow and develop within a specific industry in the long run.