Cash Flow Measurements – Some Useful Metrics
As you know from reading my blog, I’m a firm believer that there is one main metric in a business of which we need to focus on. This does not mean that there aren’t other support metrics which can be useful to the management of the business. The one main metric provides an insight to the future whereas the other support metrics usually are financial and provide analysis of what has happened.
Today in this blog post I’m going to cover a couple of cash flow metrics, which give an insight into the management of cash flow in a business.
The first one is cash flow to sales ratio. This is calculated as: -
(Net Income + Non-Cash Expenses – Non-Cash Sales) ÷ Total Sales
This shows cash as a percentage of sales and its variation from the net profit margin is where we need to analyze. If there is a significant positive or negative variance, then we need to look at what is throwing off cash, or soaking up cash.
This metric can be also done on a product or service basis, so that we’re looking at the cash flow generated by each product, to determine whether there are products that are soaking up cash more than they should. Even though whilst profitable we may need to look at how these product lines are dealt with.
The second metric is the fixed charge coverage ratio. This is calculated as:-
fixed costs ÷ by the cash flow as defined above.
In respect to fixed costs these are all the commitments that the business has to meet no matter what happens. So it could be loan commitments, lease commitments, rent commitments on an office space or factory premises etc.
All of the fixed costs that are necessary to the management of the business.
This fixed charge coverage shows how much cash flow is being generated above the fixed cost coverage. It is assumed that if we aren’t meeting our fixed costs then we would not be able to keep our business doors open.
These two metrics are useful in the measurement and management of cashflow.
Photo: Ivan Walsh
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