Positive Cash Flow

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21 Aug, 2024

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Positive cash flow is a situation where a business generates more cash than what it spends on its expenses. It occurs if the cash inflow of a company surpasses its cash outflow. A cash flow-positive business is favorable because the surplus money aids the business in its expansion process.

A cash flow-positive situation can be reached through effective cash flow management. This cash flow enables the company to build cash reserves, which are beneficial during emergencies and unforeseen events. It also allows the company to reinvest the extra income, which opens up new opportunities for the company.

Positive Cash Flow Meaning

Positive cash flow is when a business is able to generate more revenue than the expenses it incurs. It implies that a company's cash inflow is higher than its cash outflow.
This cash flow is necessary for businesses as it acts as a safety net during times of emergency and financial crisis. It also enables the company to pay the third parties involved in the business.
The cash flow aids a company in its expansion process as the revenue generated from the business can fund all its operational expenses.

Positive Cash Flow Explained

Positive cash flow is a business situation when a business experiences more cash inflow than cash outflow. It implies that the business generates more revenue than the expenditure it incurs. This cash flow is essential for businesses to grow and reinvest in their expansion. It also acts as a safety cushion of cash reserves that enable businesses to withstand financial crises and cash emergencies.

A cash flow-positive business is capable of investing money into its operations, which improves the business process. Moreover, it aids a business in tapping into new business opportunities. The surplus money generated from the sales can fund all the cash requirements of the business. Several factors, including efficient inventory management and accounts receivable management, can impact this cash flow.

How To Generate?

The strategies for creating positive cash flow are:

Businesses must make a plan because building a budget and monitoring the expenses helps a business clearly identify where the money is going. Moreover, it also enables a company to maintain a sufficient cash balance in hand for emergencies.
Focusing on the customers and providing them with exceptional service will ensure that the customers will remain loyal to the business. Improving the customer experience will help a business generate revenue. Thus, there will always be adequate cash in the business.
A business must efficiently manage its inventory to ensure cash flow in favorable circumstances. If the inventory is too high, the working capital, which could have been used in other operations, gets tied up. However, if there is too little inventory, a business may encounter the risk of running out of stock and losing sales.

Examples

Let us study the following examples to understand this cash flow:

Example #1

Suppose Sam owns a cafeteria named "Foodies Delight." In a particular month, the cafe generated $75,000 in revenue through its product and service offerings. The expenses that the cafe incurred on rent, electricity, equipment, ingredients, and other expenses during the month were $50,000. Therefore, the cafe generated a surplus cash of $25,000. Sam used the extra money to buy more equipment that would improve the quality of the business. This is a positive cash flow example in a business.

Example #2

On March 7, 2023, the CEO of Twitter, Elon Musk, said that the organization had the chance of being cash flow-positive in the next quarter. The social media platform aggressively cut its expenses to generate higher revenues. Musk spoke at an investor conference at Morgan Stanley, which was being webcasted. He expressed that he was baffled at the social media platform's inadequacy in gaining revenue from its messaging service. The company also fired thousands of its employees to reduce costs.

Importance

The importance for a business to be cash flow positive is as follows:

It enables the management to make better business decisions. It allows them to avoid problems with overspending. Moreover, it aids them in making the necessary purchases for the business in the future.
Efficient cash flow management results in a cash flow-positive scenario. It assists the company's management in understanding exactly how it obtains and spends money. It also helps them diminish costs and optimize different business operations.
It helps a business to expand its operations. Business expansions may be risky since they include significant amounts of cash on several items that a business requires to grow. A cash flow-positive enterprise can expand its business due to the surplus money.
Having this cash flow can help businesses avoid situations in which there are not sufficient funds available to make payments to third parties like contractors and suppliers.

Positive Cash Flow vs Negative Cash Flow

The differences between the two are as follows:

Positive Cash Flow

This is a scenario when a business experiences its cash inflows surpassing its cash outflows.
It means that the business has more money coming in than going out.
A favorable cash flow situation can be attained in several ways. The most common methods are effective inventory management and efficient accounts receivable management.

Negative Cash Flow

Negative cash flow occurs when the cash inflow of a business does not match its expenses. It results in a company spending more cash than what it receives.
It signifies that there is an imbalance in a company's earnings. A business may experience negative cash flow at different points due to its operations.
This cash flow does not necessarily imply that the business is incurring losses. A business may make a profit but experience higher expenses than its revenues.

Positive Cash Flow vs Negative Gearing

The differences between the two include the following:

Positive Cash Flow

This cash flow indicates that a business is creating more revenue than its expenditures, which is a favorable situation for the business.
It shows that the company is capable of maintaining a healthy cash balance.
Favorable cash flow circumstances allow a business to build up cash reserves, which can be beneficial in times of need or unforeseen circumstances.

Negative Gearing

Negative gearing is a phenomenon when the cost of owning a rental property surpasses the income it earns every year.
This scenario results in the generation of a taxable loss. This loss can usually be balanced against other income sources to obtain tax savings.
Negative gearing implies a situation where the rental property owners borrow to invest. When they obtain an investment loan, the property is considered to be 'geared.'

Frequently Asked Questions (FAQs)

1. Does positive cash flow mean profit?

Profit is the revenue minus the expenses. It is also known as the net income. Cash flow is the cash that a business receives and pays, whereas profit is the total revenue after paying out all the business expenditures. Generally, when the cash flow is positive, it indicates that the business is earning profits.

2. How do you calculate positive cash flow rental property?

The 1 percent rule is usually preferred for calculating a favorable cash flow situation in rental properties. This is a rule that investors of rental property employ to evaluate the property's cash flow promptly. The formula suggests that a property's total rental income must be a minimum of 1 percent of the purchase price. Any number under this limit must be rejected.

3. What is a positive cash flow property?

If a property encounters a favorable cash flow scenario, it indicates that the property's income surpasses its expenses. Conversely, a negative cash flow signifies that the property's expenditures exceed its income. Real estate investors find a cash flow-positive property to be more favorable. It implies that they are earning more money from the property, which allows them to make profits and expand the business.