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Cash flow and I/S: what they say about business liquidity

Cash flow and I/S: what they say about business liquidity

A company that presents negative results is in a delicate situation. However, what many entrepreneurs don’t know is that a positive balance can, at some point, mask a problem. To avoid this mistake, entrepreneurs can use 2 simple tools: the cash flow and the Income Statement (I/S).

These days, keeping a close watch on the financial processes of a business is an easy task, as there are technological solutions developed specifically for this type of business issue.

But despite this easiness, many companies have difficulty in analyzing their numbers, and don’t understand the reason for their losses. Therefore, this article aims to help you understand how cash flow and I/S can reveal the situation of your company. Enjoy your reading!

Cash Flow and I/S: understanding the company’s numbers?

Cash flow is a simple accounting tool that is used even for family budgets. It is a constant subtraction of expenses on the earned amounts in order to verify a company’s ability to honor its commitments and generate revenue.

With cash flow, an entrepreneur can improve expense planning, as he is able to map out the expected costs for the business and comprehend which assets the company will receive (for example, receiving sales paid in installments).

In addition, by having a detailed cash flow, the business gains financial security, as the expenses are identified, thus, allowing potential losses to be found.

Another important point is confidence in decision making; after all, leaders can rely on the cash flow to know the risks involved in new investments, such as buying equipment.

However, there is a more detailed accounting study that uses the cash flow information as a basis: The Income Statement (I/S).

What is I/S?

It provides a vertical analysis and can indicate whether the company has made a profit or is at a loss. Ideally, its calculation should be done at least every month.

That said, the I/S usually has the following components: gross operating revenue; net operating revenue; gross income; deductions and taxes; gross earnings before tax; amounts of Income Tax and Social Contribution on Net Income; fixed expenses; costs of products or services; net income.

How to calculate the I/S?

Let’s use an example to understand how to calculate the I/S. Suppose that company X presented the amount of R$ 100,000 (in Brazilian Real) as revenue.

The first step is to subtract from this amount all taxes related to the company that need to be paid. In this example, the amount is R$ 5,000. Company X has, then, R$ 95,000 of gross profit.

The next step is to discount the amount of variable expenses from the gross profit. Variable expenses are those that change according to the business’s results. For example, expenses on suppliers.

In the case of company X, this burden was R$ 40,000. That is, this company has R$ 55,000 of operating profit. If this result is negative, it means the company is literally paying to work.

The time has come to discount the amount of fixed expenses, which are those that do not depend on the company’s performance – such as rent, internet provider, electricity, etc.

In this case, the amount is R$ 20,000. We reached the amount of R$ 35,000.

Now it is the time to discount personnel expenses, including the remuneration of partners. The end result is the Net Income of the Fiscal Year.

How to interpret the I/S?

The vertical analysis will be a good parameter to know what the biggest expenses were, and also to assess if the company is heading for a loss.

Another way to interpret this tool is to use it together with previous reports. In this case, it is even possible to make a comparison with previous earnings periods, as well as revenues and costs for other months.

Cash Flow and I/S: revealing the business liquidity?

Liquidity is the ability to turn assets into capital. The easier this task is, the more liquid is the asset. For example, selling the company’s headquarters is a task with low liquidity because it can take months.

When an entrepreneur uses cash flow and I/S to know the financial situation of the company, he discovers the business’s ability to pay its bills – something that is directly linked to investment ability and can define the growth of the enterprise.

How to improve the company’s cash flow?

As we have seen, both the I/S and the cash flow can work together to improve the company’s management. At the same time, a troubled cash flow can lead to losses in the accounts. So here are some tips on how you can improve this resource. Check it out!

Create strategies to accelerate customer payment

The company can take some measures to encourage customers to pay quickly, with discount being one of the main ones.

The great strategy here is to offer it for not too high amounts in order to avoid suffering losses. Discounts of 2% to 4% for payments of up to ten days, for example, are a good option. That way, the customer gets a cheaper invoice and your company gets an improvement in cash flow.

Organize the inventory

Inventory is a very important factor for a company. Regardless of the size of your enterprise, the organization of items is critical. This includes evaluating the quantity of products and whether it is really necessary to have this volume in stock. That way, no investment is wasted.

Consolidate loans

In this case, it is time to re-evaluate well the loans your company has taken. Reviewing the rates and conditions is an important step, as it is the chance to try to consolidate them into one account, and thus, get lower interest rates.

Don’t focus only on increasing installments to have lower monthly fees. Renegotiating your debts in order to get better conditions is a great way to improve your cash flow.

Have a financial management system

Of course, it is possible to make the cash flow using only a spreadsheet. However, a financial management system will optimize your work and provide much greater control and analysis possibilities.

In addition, there is a number of management software that offers cloud storage, where all results can be safely stored. It is a very interesting investment because it makes your cash flow easier and faster, and can even help in creating and analyzing company performance reports.

With the information found here, now you understand well how cash flow and I/S work, don’t you? So if you liked this post, follow us on FacebookTwitter, and LinkedIn to receive information in your feed!