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A cash flow is a real or virtual movement of money:
Cash flows are narrowly interconnected with the concepts of value, interest rate and liquidity. A cash flow that shall happen on a future day tN can be transformed into a cash flow of the same value in t0. This transformation process is known as discounting, and it takes into account the time value of money by adjusting the nominal amount of the cash flow based on the prevailing interest rates at the time.
Cash flows are often transformed into measures that give information e.g. on a company's value and situation:
Cash flow notion is based loosely on cash flow statement accounting standards. The term is flexible and can refer to time intervals spanning over past-future. It can refer to the total of all flows involved or a subset of those flows.
Within cash flow analysis, 3 types of cash flow are present and used for the cash flow statement:
The (total) net cash flow of a company over a period (typically a quarter, half year, or a full year) is equal to the change in cash balance over this period: positive if the cash balance increases (more cash becomes available), negative if the cash balance decreases. The total net cash flow for a project is the sum of cash flows that are classified in three areas:
Depreciation*(tax rate) which locates at the end of the formula is called depreciation shield through which we can see that there is a negative relation between depreciation and cash flow.
The sum of the three component above will be the cash flow for a project.
And the cash flow for a company also include three parts:
The sum of the three components above will be the total cash flow of a company.
|Description||Amount ($)||totals ($)|
|Cash flow from operations||+70|
|Sales (paid in cash)||+30|
|Cash flow from investments||-10|
The net cash flow only provides a limited amount of information. Compare, for instance, the cash flows over three years of two companies:
|Company A||Company B|
|Year 1||Year 2||Year 3||Year 1||Year 2||Year 3|
|Cash flow from operations||+20M||+21M||+22M||+10M||+11M||+12M|
|Cash flow from financing||+5M||+5M||+5M||+5M||+5M||+5M|
|Cash flow from investment||-15M||-15M||-15M||0M||0M||0M|
|Net cash flow||+10M||+11M||+12M||+15M||+16M||+17M|
Company B has a higher yearly cash flow. However, Company A is actually earning more cash by its core activities and has already spent 45M in long term investments, of which the revenues will only show up after three years.
In accounting, revenue is the total amount of income generated by the sale of goods and services related to the primary operations of the business. Commercial revenue may also be referred to as sales or as turnover. Some companies receive revenue from interest, royalties, or other fees. "Revenue" may refer to income in general, or it may refer to the amount, in a monetary unit, earned during a period of time, as in "Last year, Company X had revenue of $42 million". Profits or net income generally imply total revenue minus total expenses in a given period. In accounting, revenue is a subsection of the Equity section of the balance statement, since it increases equity. It is often referred to as the "top line" due to its position at the very top of the income statement. This is to be contrasted with the "bottom line" which denotes net income.
An expense is an item requiring an outflow of money, or any form of fortune in general, to another person or group as payment for an item, service, or other category of costs. For a tenant, rent is an expense. For students or parents, tuition is an expense. Buying food, clothing, furniture, or an automobile is often referred to as an expense. An expense is a cost that is "paid" or "remitted", usually in exchange for something of value. Something that seems to cost a great deal is "expensive". Something that seems to cost little is "inexpensive". "Expenses of the table" are expenses for dining, refreshments, a feast, etc.
In accountancy, depreciation is a term that refers to two aspects of the same concept: first, the actual decrease of fair value of an asset, such as the decrease in value of factory equipment each year as it is used and wear, and second, the allocation in accounting statements of the original cost of the assets to periods in which the assets are used.
An income statement or profit and loss account is one of the financial statements of a company and shows the company's revenues and expenses during a particular period.
In finance, valuation is the process of determining the value of an asset. Valuation is a subjective exercise as the process of valuation itself can also affect the value of the asset in question. Generally, there are three ways of performing a valuation, namely discounted cashflow valuation, relative valuation, and contingent claim valuation. In a business context, it is often the hypothetical price that a third party would pay for a given asset. Valuations can be done on assets or on liabilities. Valuations are needed for many reasons such as investment analysis, capital budgeting, merger and acquisition transactions, financial reporting, taxable events to determine the proper tax liability.
In financial accounting, a cash flow statement, also known as statement of cash flows, is a financial statement that shows how changes in balance sheet accounts and income affect cash and cash equivalents, and breaks the analysis down to operating, investing and financing activities. Essentially, the cash flow statement is concerned with the flow of cash in and out of the business. As an analytical tool, the statement of cash flows is useful in determining the short-term viability of a company, particularly its ability to pay bills. International Accounting Standard 7 is the International Accounting Standard that deals with cash flow statements.
In corporate finance, free cash flow (FCF) or free cash flow to firm (FCFF) is the amount by which a business's operating cash flow exceeds its working capital needs and expenditures on fixed assets. It is that portion of cash flow that can be extracted from a company and distributed to creditors and securities holders without causing issues in its operations. As such, it is an indicator of a company's financial flexibility and is of interest to holders of the company's equity, debt, preferred stock and convertible securities, as well as potential lenders and investors.
Return on capital (ROC), or return on invested capital (ROIC), is a ratio used in finance, valuation and accounting, as a measure of the profitability and value-creating potential of companies relative to the amount of capital invested by shareholders and other debtholders. It indicates how effective a company is at turning capital into profits.
A fixed asset, also known as long-lived assets or property, plant and equipment (PP&E), is a term used in accounting for assets and property that may not easily be converted into cash. Fixed assets are different from current assets, such as cash or bank accounts, because the latter are liquid assets. In most cases, only tangible assets are referred to as fixed.
Working capital (WC) is a financial metric which represents operating liquidity available to a business, organisation, or other entity, including governmental entities. Along with fixed assets such as plant and equipment, working capital is considered a part of operating capital. Gross working capital is equal to current assets. Working capital is calculated as current assets minus current liabilities. If current assets are less than current liabilities, an entity has a working capital deficiency, also called a working capital deficit and negative working capital.
In business, operating margin—also known as operating income margin, operating profit margin, EBIT margin and return on sales (ROS)—is the ratio of operating income to net sales, usually expressed in percent.
In financial accounting, operating cash flow (OCF), cash flow provided by operations, cash flow from operating activities (CFO) or free cash flow from operations (FCFO), refers to the amount of cash a company generates from the revenues it brings in, excluding costs associated with long-term investment on capital items or investment in securities. Operating activities include any spending or sources of cash that’s involved in a company’s day-to-day business activities. The International Financial Reporting Standards defines operating cash flow as cash generated from operations, less taxation and interest paid, gives rise to operating cash flows. To calculate cash generated from operations, one must calculate cash generated from customers and cash paid to suppliers. The difference between the two reflects cash generated from operations.
Business valuation is a process and a set of procedures used to estimate the economic value of an owner's interest in a business. Here various valuation techniques are used by financial market participants to determine the price they are willing to pay or receive to effect a sale of the business. In addition to estimating the selling price of a business, the same valuation tools are often used by business appraisers to resolve disputes related to estate and gift taxation, divorce litigation, allocate business purchase price among business assets, establish a formula for estimating the value of partners' ownership interest for buy-sell agreements, and many other business and legal purposes such as in shareholders deadlock, divorce litigation and estate contest.
Capital budgeting in corporate finance is the planning process used to determine whether an organization's long term capital investments such as new machinery, replacement of machinery, new plants, new products, and research development projects are worth the funding of cash through the firm's capitalization structures. It is the process of allocating resources for major capital, or investment, expenditures. An underlying goal, consistent with the overall approach in corporate finance, is to increase the value of the firm to the shareholders.
Capitalization rate is a real estate valuation measure used to compare different real estate investments. Although there are many variations, the cap rate is generally calculated as the ratio between the annual rental income produced by a real estate asset to its current market value. Most variations depend on the definition of the annual rental income and whether it is gross or net of annual costs, and whether the annual rental income is the actual amount received, or the potential rental income that could be received if the asset was optimally rented.
Return on capital employed is an accounting ratio used in finance, valuation, and accounting. It is a useful measure for comparing the relative profitability of companies after taking into account the amount of capital used.
In financial accounting, an asset is any resource owned or controlled by a business or an economic entity. It is anything that can be used to produce positive economic value. Assets represent value of ownership that can be converted into cash . The balance sheet of a firm records the monetary value of the assets owned by that firm. It covers money and other valuables belonging to an individual or to a business.
Strategic financial management is the study of finance with a long term view considering the strategic goals of the enterprise. Financial management is nowadays increasingly referred to as "Strategic Financial Management" so as to give it an increased frame of reference.
A financial ratio or accounting ratio is a relative magnitude of two selected numerical values taken from an enterprise's financial statements. Often used in accounting, there are many standard ratios used to try to evaluate the overall financial condition of a corporation or other organization. Financial ratios may be used by managers within a firm, by current and potential shareholders (owners) of a firm, and by a firm's creditors. Financial analysts use financial ratios to compare the strengths and weaknesses in various companies. If shares in a company are traded in a financial market, the market price of the shares is used in certain financial ratios.