Cash flow drivers are vital to sustaining the life of a business. When cash flow is low, a string of issues arise. From struggling to pay suppliers to potential solvency problems, low cash flow must be avoided at all costs.
So, what should you do as a finance professional to ensure cash flow is never in short supply?
The answer is to start by focusing on the key cash flow drivers in a business. From there, you can start analyzing the current state of each source. Then, you can get to work and strategize a plan to keep cash flowing into the business.
Keep reading to learn more about the definition of cash flow drivers and which ones you should focus on.
Topics covered:
- What are cash flow drivers?
- Importance of maintaining cash flow
- The role of finance teams in managing cash flow
- 7 cash flow drivers in a business
- Cash flow vs working capital
- FAQs
What are cash flow drivers?
Cash flow drivers in a business are key factors that influence a company's cash flow. They play a vital role in shaping its long-term financial health and growth potential.
They also affect how much money comes in and goes out of a business as a result of strategic decisions. When you're trying to figure out a company's true value or predict its future success, understanding these cash drivers is crucial.
By keeping an eye on the main cash flow drivers of the business, you'll be in a better position to:
- Evaluate growth prospects and profits
- Assess the sustainability and trajectory of a business
Importance of maintaining cash flow
Maintaining cash flow is vital for a business's survival and growth. Not only does it ensure there are enough funds to meet financial obligations, but a healthy cash flow puts the business in a stronger position to invest in new opportunities and weather unexpected challenges.
Healthy cash flow means the business can pay suppliers, employees, and lenders on time, fostering strong relationships and trust. Plus, positive cash flow attracts investors and can lead to better access to credit, further fueling growth.
Sabrinthia Donnelly
The role of the finance team in managing cash flow
The finance team plays a pivotal role in managing cash flow within a company. Some key responsibilities of the finance team include:
- Cash flow forecasting
- Budgeting and financial planning
- Monitoring and analyzing cash flow
- Working capital management
- Cost control and profitability
- Capital expenditure management
7 cash flow drivers in a business
Now that we've discussed the importance of cash flow, let's dive into the seven key cash flow drivers in a business.
By understanding and optimizing these drivers of cash, you can take charge of your company's financial health and set the stage for sustainable growth.
1. Revenue growth
Revenue growth is the increase in a company's sales over time. It's a critical cash flow driver because it affects cash inflow.
Top-performing companies focus on expanding their customer base, launching new products or services, and optimizing their marketing and sales strategies to boost revenue growth.
2. Gross margin
Gross margin is the percentage difference between revenue and the cost of goods sold (COGS). A higher gross margin indicates that a company is generating more profit for every dollar of sales.
To improve gross margin, consider:
- Optimizing your pricing strategy
- Reducing production costs
- Negotiating better terms with suppliers
3. EBITDA margins
Earnings Before Interest, Taxes, Depreciation, and Amortization (EBITDA) margins measure a company's operating profitability. Healthy EBITDA margins signify the company's ability to generate cash from its core operations.
If you want to improve EBITDA margins, focus on:
- Cost control
- Operational efficiency
- Refining your product or service mix
4. Capital Expenditure
Capital Expenditure (CapEx) refers to investments in long-term assets, such as equipment, property, or technology. While necessary for growth, CapEx can tie up cash, impacting cash flow.
To optimize CapEx to help increase cash flow, prioritize:
- Projects based on potential returns
- Improving budgeting and forecasting
- Seeking alternative financing options like leasing or vendor financing
5. Accounts receivable
Accounts receivable represents the money owed to a company by its customers. As a cash flow driver, effectively managing accounts receivable can accelerate cash inflows.
You can transform accounts receivable management for the better by:
- Implementing a robust credit policy
- Streamlining the invoicing process
- Offering early payment incentives
- Diligently following up on overdue payments
6. Accounts payable
Accounts payable is the money a company owes to its suppliers for goods or services. Managing accounts payable efficiently can help preserve cash flow by optimizing the timing of cash outflows.
Some strategies to improve cash flow via accounts payable include:
- Negotiating favorable payment terms with suppliers
- Taking advantage of early payment discounts
- Leveraging technology to automate and streamline the accounts payable process
7. Working capital
Working capital is the difference between a company's current assets and current liabilities. It's a key cash flow driver, as it reflects the company's ability to cover short-term financial obligations.
To raise working capital management, focus on:
- Reducing inventory levels
- Keeping expenses under control
- Collecting payments as soon as possible
[Disclaimer: there are many more drivers of cash flow to consider, but these are the seven that we've chosen to discuss in more detail]
Sabrinthia Donnelly
What is cash flow vs working capital?
Cash flow refers to the inflow and outflow of cash within a business over a specific period. On the other hand, working capital is the difference between a company's current assets and liabilities.
Cash flow is a measure of a company's liquidity and its ability to generate and use cash.
Working capital focuses on short-term financial health and operational efficiency.
Cash flow drivers in a business – FAQs
What is the definition of cash flow drivers?
Cash flow drivers are the key elements that influence the inflow and outflow of cash within a business. They help determine a company's financial health and can vary depending on factors like industry, business model, and management decisions. Cash flow drivers include revenue, expenses, working capital, and investments.
What are the drivers of working capital?
Working capital drivers are elements that impact a company's current assets and liabilities, which ultimately influence its liquidity and operational efficiency. Key drivers of working capital include inventory management, accounts receivable, and accounts payable. Effective management of these drivers can lead to better cash flow and financial stability.
What is a profit driver?
A profit driver is any factor or activity that contributes to the generation of profit in a business. These drivers play a crucial role in the overall financial success of a company. Examples of profit drivers include sales volume, pricing strategies, cost management, and operational efficiency.
What drives free cash flow?
Free cash flow is the cash generated by a business that's available for distribution to the company's investors after accounting for all operating expenses and capital expenditures. The primary drivers of free cash flow include revenue growth, operating margin improvement, working capital management, and capital expenditure optimization.
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