What is Net Cash Flow?
In the world of finance and investment, evaluating a business's performance isn't limited to net profit alone. Equally crucial is analyzing "net cash flow" (NCF). Even if a company reports profits, a severe lack of financial liquidity can lead to unforeseen problems such as accumulated losses or bankruptcy
This article will take you on a journey to understand Net Cash Flow (NCF) in depth, including calculation examples, how to read NCF, its advantages, limitations, and solutions when encountering warning signals
What is net cash flow?
Net cash flow (NCF) refers to the difference between the cash inflows and cash outflows of a business over a period of time, whether from business operations, investments, or financing
- If NCF is positive, it means the company has cash remaining after conducting all its activities
- If the NCF is negative, it may mean the company is spending more than it receives in cash. This should be monitored to determine whether it is due to investments for the future or due to financial problems
Net Cash Flow Calculation Formula
Net Cash Flow (NCF) = CFO + CFI + CFF
It consists of three main parts from the cash flow statement (CFS)
- CFO (Cash Flow from Operations) is the cash flow from the core activities of a business, such as the sale of goods and services
- CFI (Cash Flow from Investing) refers to cash flow from investments, such as the purchase or sale of fixed assets
- CFF (Cash Flow from Financing) refers to cash flow generated from financing activities such as borrowing, debt repayment, or dividend payments
Example of Net Cash Flow calculation
Let's assume company A had the following data in 2021:
- Net profit: 100 million
- Depreciation and amortization: 20 million
- Change in net working capital: (10 million)
- CapEx: (80 million)
- Long-term loan: 40 million
- Long-term debt repayment: (20 million)
- Dividend paid: (10 million)
It can be calculated that:
- CFO = 100 + 20 – 10 = 110 million
- CFI = –80 million
- CFF = 40 – 20 – 10 = 10 million
so
Net Cash Flow (NCF) = 110 – 80 + 10 = 40 million
How to read Net Cash Flow correctly
NCF values should be interpreted in the context of the specific business and situation, not just as a random number
- A positive NCF (Cash Flow) indicates a company with surplus cash, possibly reflecting good financial management. It's important to consider the source of this surplus; for example, a high CFO (Cash Flow Without Funds) suggests a strong business, while a high CFF (Cash Flow Without Funds) indicates potential concerns about debt burden due to borrowing.
- CFO ( Cost, Financial, and Financial) doesn't necessarily mean the company is doing poorly. If it's due to a negative CFI (Cost, Financial, and Financial) like the purchase of machinery, it could be an investment for growth. However, a negative CFO (Cost, Financial, and Financial) should be watched closely, as it could indicate insufficient core revenue.
Advantages of using Net Cash Flow
- provides a true overview of financial data, unlike net profit which is based on accrual. NCF shows the movement of “actual cash.”
- Analyzing a company's liquidity helps determine whether the company has sufficient cash for operations, debt repayment, and investments.
- This is an early warning sign; if NCF (Non-Commissioned Fund) continues to decline, it may indicate financial problems that need immediate attention.
- Suitable for use in conjunction with other financial statements to assist investors, managers, or creditors in making decisions.
Limitations of Net Cash Flow
- It doesn't directly reflect profitability. Even with high cash reserves, a lack of profitability in the long term could lead to problems in the future.
- A distorted financial picture can occur if the context is not considered, such as cash inflows from loans but not from actual income.
- Sensitivity to short-term positive or negative NCF fluctuations may not reflect the true trends of the business.
- Long-term stability cannot be assessed in isolation; it must be considered in conjunction with other indicators such as ROI, ROE, or various financial ratios.
How to solve the problem when NCF (Negative National Fruit Failure) is negative (Case Study)
Suppose Company A experiences a negative
Net Cash Flow (NCF): 60 – 90 + 5 = -25 million.
analyze:
- CFI suffered a significant loss from a 90 million investment
- The CFO price decreased from 110 million to 60 million
- The main income is insufficient to cover the investment obligations
Solution:
- Reduce unnecessary expenses in the short term
- Adjust investment plans accordingly, such as postponing some projects
- Increase cash flow from operations, such as by increasing sales and accelerating debt collection
- Seek additional funding sources, such as loans or investment from partners
- Selling non-performing assets to improve short-term liquidity
summarize
Net cash flow (NCF) is a crucial indicator for analyzing a business's financial health. It shows whether a company has sufficient actual cash on hand to operate and grow, even with high net profits. A consistently negative NCF may reflect liquidity problems that need immediate attention. Conversely, a positive NCF driven by operating activities is a positive sign of long-term business stability.
Therefore, whether you are an investor, business owner, or manager, understanding and correctly utilizing NCF is key to making informed business decisions.
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