What is a Cash Flow?

Cash flow is the specification of cash being received and spent by a company during a defined period of time. Cash flow can be tied to a specific project.

Entire cash flow for the given period is characterized by two parameters:

- direction (cash is received or spent) and

- the type of activities (operating, investing, financing).

Those two parameters are independent.

Operating income is the cash received from the operating activity, meaning cash that core business generates.

For example: the company sold 100 pizzas for 4$ each yielding 400$ of cash from operating activities.

Operating outcome is the cash spent on operating activities, meaning cash spent on items necessary to make a product.

For example: the company spent 350$ on flower, catchup, etc.

Investing income is the cash received by selling assets that produce income.

Investing outcome is the cash spent by purchasing assets that produce income.

Financing income is the cash received from financing activity such as issuance of own stock, borrowing (bonds, notes, mortgages, etc.)

Financing outcome is the cash Cash spent on financing activity such as paying dividends to stockholders, repaying principal amounts borrowed, repurchasing business' own stock.

Cash received from the operating activity minus cash spent on operating activity yields

Cash received from the investing activity minus cash spent on investing activity yields

Cash received from the financing activity minus cash spent on financing activity yields

The sum of those three net cash amounts yields

Analyzing the cash flow, it is possible to find out how a company earns, and where it spends the money. Does company invest or not, does company borrows a lot, etc.

Every change on account of a company falls in one of the following category:

1) Investing activities income (II) - a large number usually means that a lot of equipment is has been sold.

2) Investing activities outcome (IO) - a large number usually means that a lot of equipment is has been bought.

3) Financing activities income (FI) - a large number usually means that a lot of money has been borrowed.

4) Financing activities outcome (FO) - a large number usually means that a lot of money has been returned to the banks.

5) Operating activities income (OI) - a large number usually means that a lot products has been sold.

6) Operating activities outcome (OO) - a large number usually means that production costs a lot.

It is useless to consider each of these parameters alone. Those parameters make sense only in correlation with other parameters and their historical perspective.

If there is a large amount in the IO category, that means that company invested in that period a lot of money into equipment and machinery, and that is a good indicator.

If OI is less than OO that means that company cannot cover the production cost with income from operation, and that is a bad sign.

IF FI is a large amount, that means that company borrowed the money (loan from bank, issuing more stock, ...). That can be a bad sign, for example when OI is then less then OO.

Another important factor is historical perspective. If the company is getting more and more loans, and less and less income from the operating activities (core business), that is a very bad sign.

Net decrease/increase in cash and cash equivalents is sum of all cash inputs minus the sum of all outputs. If there is an increase in cash and cash equivalents that is good if it is mainly from the operating activities. That means that company uses day to day cash income to cover investing. If there is a decrease in cash and cash equivalents that is a bad sign if income from the operating activities is going down (historically).