.How to Calculate Cash Flow?

Direct method of cash flow calculation
Indirect method of cash flow calculation

Cash flow is the lifeblood of business. The way you manage the cash flow will define the success of your business. If managed well, it will help you to create more cash cushion that is essential for business growth. On the other hand, if not managed efficiently, it will be the major reason for the failure of business due to insufficient funds. How to Calculate Cash Flow?

To define cash flow, it is a statement that summarizes the change in the cash position i.e. inflow and outflow of cash and cash equivalents. Read Cash Flow: What is Cash Flow Statement Definition and Example to know more.

If your cash inflow is more than the outflow, it is positive cash flow. If the cash outflow is more than the inflow, it is called negative cash flow and indicates that the business will run out cash on a longer run. How to Calculate Cash Flow?

To know and measure whether the cash flow has positively impacted the business, you need to calculate the cash flow. There are different formulas and method to calculate cash flows as detailed in the next section.

How to calculate cash flow

To calculate cash flow, you can either apply the direct method or the indirect method. Each method uses different formulas to calculate cash flow.

Direct method of cash flow calculation

Under the direct method of cash flow, the gross cash outflow and inflow of business operations are considered to arrive the net cash flow. The cash inflow i.e. cash receipts from sales, accounts receivables etc. are reduced with the cash outflow made towards various expenses like rent, salary, accounts payables etc. The remaining balance is the net cash flow.

Here, all non-cash aspects like depreciation, bad debts etc. are not included.

Let us understand how to calculate cash flow using the direct method with an example. How to Calculate Cash Flow?

Calculating cash flow using the direct method
Cash inflow
Receipts from customers	9,00,000
Cash sales	1,00,000
Interest received	25,000
Total cash inflow	10,25,000
Cash outflow
Payment to vendors	6,00,000
Salaries and wages	75,000
Office expenses	15,000
Tax paid	15,000
Total cash outflow	7,05,000
Net cash flow (10,25,000 – 7,05,000)	3,20,000

Indirect method of cash flow calculation

To calculate cash flow using an indirect method, the net income is adjusted with all non-cash-items. Here, an increase in the asset is reduced from net income and an increase in liability is added back to net income. How to Calculate Cash Flow?

Under this method, the cash flow is divided into three sections – operating, investing, and financing activity. For each section, the net cash flow is arrived after making the suitable adjustments How to Calculate Cash Flow?

Let’s understand how to calculate cash flow using the indirect method

Calculating Cash flow using the indirect method
Cash flow from operating activities
Net Income		20,00,000
Add: Non-cash adjustments debited to P&L a/c
Depreciation	1,00,000
Amortisation	50,000
Bad debts	20,000	1,70,000
Less: Non-cash adjustments credited to P&L a/c
Profit on sale of fixed assets	60,000
Increase in accounts receivables	2,00,000
Decrease in accounts payables	50,000	3,10,000
Cash from operating activities			18,60,000
Cash flow from investing activities
Sales of fixed assets	50,000
Less: Purchase of fixed assets (land, building, furniture, machinery)	8,00,000
Net cash from operating activities (50,000 – 8,00,000)			(7,50,000)
Cash flow from financing activities
Issue of equity and preference share capital (cash only)	4,00,000
Less: Payment of dividend	70,000
Net Cash from financing activities (4,00,000 – 70,000)			3,70,000
Net increase in cash and cash equivalents (The net cash flow from the first three activities)			14,80,000
Cash and cash equivalents and the beginning of the period			2,00,000
Cash and cash equivalents and the end of the period (net cash flow + cash at the beginning of the period)			16,80,000

Rules for calculating cash flow using the indirect method

Add or Reduce from Net income	Details
Add	Decrease in non-cash current assets
Reduce	Increase in non-cash current asset
Add	Increase in current liabilities
Reduce	Decrease in current liabilities
Add	Non-cash adjustments (Depreciation and/or amortization
Subtract	Non-cash revenues
Add	Non-operating losses
Reduce	Non-operating gains

Preparing cash flow statements helps businesses to know the net cash position and enables business owners to make smart decisions. Also, one can investigate the areas that require attention and accordingly optimize the cash position. Read 6 Tips for Efficient Cash Flow Management to know what all you can do to optimize the cash flow. How to Calculate Cash Flow?

Cash flow statement being a key report, using accounting software helps you to get these reports instantly over and above helping you to manage your business more efficiently. How to Calculate Cash Flow?

Today, accounting software is provisioned to generate the cash flow projection report that indicates a projected cash flow position considering the anticipated revenues and outflow. This helps you make a better business decision. How to Calculate Cash Flow?

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