What is cash flow?

Operating cash flow is the cash generated by the core business: customer receipts less payments to suppliers and staff, GST remittances and other operating items. Receiving $120,000 from customers and paying $70,000 to suppliers and $30,000 in wages gives a positive operating cash flow of $20,000.

Investing cash flow covers long-term assets: buying or selling property, plant and equipment, investments and loans to others, so a $50,000 machinery purchase is an investing outflow. Financing cash flow covers debt, equity and capital transactions: a $100,000 loan drawdown is a financing inflow, and the quarterly repayments are financing outflows. Knowing which activity is driving your cash movements tells you whether to change operations, defer capex or adjust your finance.

Net cash flow is cash inflows minus cash outflows. Operating cash flow can be shown two ways. The direct method lists the gross receipts and payments: cash from customers less cash paid to suppliers, employees and others. The indirect method starts with accounting profit and adjusts for non-cash items such as depreciation and amortisation and for changes in working capital. Both arrive at the same figure once every adjustment is included; the direct method is usually clearer for management and lenders.

Two other measures matter. Free cash flow is operating cash flow less capital expenditure. The cash conversion cycle is days inventory outstanding plus days sales outstanding minus days payable outstanding: the shorter it is, the less cash is tied up in running the business.

Most small businesses run a monthly forecast, but a rolling 13-week forecast, updated weekly, is the one lenders and creditors most often ask for when cash is tight. Start with the opening bank balance, add expected receipts from customer payment terms and contract milestones, subtract wages, supplier invoices, loan repayments, tax and rent, and include one-off items such as capex. Make the assumptions explicit (days sales outstanding, supplier terms, seasonality) and run a downside case. A closing balance that hits zero is the signal to act: chase receivables, delay discretionary payments or arrange short-term finance.

To improve cash flow, invoice immediately and use invoice discounting if you need cash against invoices, trim excess inventory, negotiate supplier terms, defer non-essential capex, review pricing as input costs rise, and compare leasing with buying for equipment. Overdrafts and lines of credit are for smoothing timing gaps, not for covering ongoing operating losses.

Lenders read cash flow as the measure of your ability to service debt. They look at historical operating cash flow and its trend, a 13-week or monthly forecast with downside scenarios, liquidity cushions such as undrawn facilities and cash reserves, and covenant ratios such as interest cover and the current ratio.

Bring a clear rolling forecast, up-to-date aged receivables and payables, and details of any security, and approach the lender early, when the forecast shows a shortfall, rather than after it arrives. Lenders respond better to evidence than to surprise requests, and flexible covenants or short-term relief are easier to negotiate before a breach.