Cash Flow (CF) is the increase or decrease in the amount of money a business, institution, or individual has. In finance, the term is used to describe the amount of cash (currency) that is generated or consumed in a given time period. There are many types of CF, with various important uses for running a business and performing financial analysis.
Types of Cash Flow
There are several types of Cash Flow, so it’s important to have a solid understanding of what each of them is. When someone refers to CF, they could mean any of the types listed below, so be sure to clarify which cash flow term is being used.
Types of cash flow include:
Cash from Operating Activities: Cash that is generated by a company’s core business activities – does not include cash flow from investing. This is found on the company’s Statement of Cash Flows (the first section).
Free Cash Flow to Equity (FCFE): FCFE represents the cash that’s available after reinvestment back into the business (capital expenditures). Read more about FCFE.
Free Cash Flow to the Firm (FCFF): This is a measure that assumes a company has no leverage (debt). It is used in financial modeling and valuation. Read more about FCFF.
Net Change in Cash: The change in the amount of cash flow from one accounting period to the next. This is found at the bottom of the Cash Flow Statement.
Uses of Cash Flow
Cash Flow has many uses in both operating a business and in performing financial analysis. In fact, it’s one of the most important metrics in all of finance and accounting.
The most common cash metrics and uses of cash flow are the following:
- Net Present Value: Calculating the value of a business by building a DCF Model and calculating the net present value (NPV)
- Internal Rate of Return: determining the IRR an investor achieves for making an investment
- Liquidity: Assessing how well a company can meet its short-term financial obligations
- Cash Flow Yield: Measuring how much cash a business generates per share, relative to its share price, expressed as a percentage
- Cash Flow Per Share (CFPS): Cash from operating activities divided by the number of shares outstanding
- P/CF Ratio: The price of a stock divided by the CFPS (see above), sometimes used as an alternative to the Price-Earnings or P/E ratio
- Cash Conversion Ratio: The amount of time between when a business pays for its inventory (cost of goods sold) and receives payment from its customers is the cash conversion ratio
- Funding Gap: A measure of the shortfall a company has to overcome (how much more cash it needs)
- Dividend Payments: CF can be used to fund dividend payments to investors
- Capital Expenditures: CF can also be used to fund reinvestment and growth in the business