What is cash flow? It's basically the movement of funds in and out of your business. You should be tracking this either weekly, monthly or quarterly. There are essentially two kinds of cash flows:
- Positive cash flow: This occurs when the cash funneling into your business from sales, accounts receivable, etc. is more than the amount of the cash leaving your businesses through accounts payable, monthly expenses, salaries, etc.
- Negative cash flow: This occurs when your outflow of cash is greater than your incoming cash. This generally spells trouble for a business, but there are steps you can take to remedy the situation and generate or collect more cash while maintaining or cutting expenses.
Some of these components include:
Components of Income
Fixed Expenses
Discretionary Expenses
Taxes
Savings
This is mainly to do with the inflow and the outflow of money. To put simply, inflows refers to the money that’s earned while outflows refer to the expenses. To list a few examples:
Inflows:
Salary/Business Income
Rental income
Interest/Dividend Income
Outflows:
Regular living expenses
Rental payouts – if any
Other Discretionary expenses
Annual tax and insurance payments
Below are some aspects that need to be kept in mind to manage cashflows:
Budgeting: It allows estimating the quantum of surplus that gets generated periodically which could be monthly or annually as the case may be. In case of reduced surplus generation, cashflow may be managed by either reducing expenses or increasing income. To reduce expenses, first identify and classify the expenses as fixed or discretionary. Expenses that are typically made by choice are discretionary expenses that include vacationing, weekly outing, etc. These expenses are easier to cut down and do not call for any structural lifestyle changes to see a positive impact. For example, a holiday in India would work out more cost effective than spending on an international holiday. This category of expense has a higher potential of displaying positive impact on cashflows without having to make any major changes in lifestyle as compared to essential expenses.
Build Corpus: It’s good to maintain an emergency corpus that provides immediate liquidity as required. There is no strict rule on how much the corpus should be but ideally it should be maintained to meet your 4 to 6 months of expenses. If you like to shop and tend to make unplanned purchases, it’s a good idea to either step up your corpus or have a separate fund for that.
Equated Monthly Installments: While purchasing a property, the first priority is always to accumulate for the lumpsum down payments. While most forget that the regular EMI outflow that gets paid each month has an impact on cashflow either today or in future. It’s very important to treat these committed expenses in a holistic manner to ensure that reduced savings today do not have an impact on other critical goals planned for the future.
Investment Planning: Once the goals are chalked out and the monthly savings identified; the next important aspect is to identify the right investment avenues. Apart from strategizing the investments based on asset allocations another important aspect that needs to be considered is the required investment duration to ensure the required amount is available as needed. Certain investments define a fixed timeline as in case of a PPF a/c where as there is no such lock in period for equity investments. However to be able to generate most from this class of investment, it is best to consider these from a long term perspective. Investment timeline should ideally be looked at in conjunction with goals to match the liquidity requirements. Some people may not have saved as much as they would have wished. This is not because they did not intent to save but because they did not manage their cashflow well. It is important to set a system keeping the above in mind. A good investment plan is always preceded by good cashflow management.
ref:
http://www.investopedia.com/exam-guide/cfp/financial-statements/cfp5.asp
http://www.inc.com/encyclopedia/cashflow.html
http://www.accenture.com/Microsites/vaahini/potpourri/moneywise/Pages/your-cash-flow.aspx
http://www.forbes.com/sites/moneybuilder/2010/12/13/how-to-manage-your-personal-cash-flow
