Cash flow from assets definition
/What is Cash Flow from Assets?
Cash flow from assets is the aggregate total of all cash flows related to the assets of a business. This information is used to determine the net amount of cash being spun off by or used in the operations of a business. The concept is comprised of the following three types of cash flows:
Cash flow generated by operations. This is net income plus all non-cash expenses, which usually include depreciation and amortization.
Changes in working capital. This is the net change in accounts receivable, accounts payable, and inventory during the measurement period. An increase in working capital uses cash, while a decrease produces cash.
Changes in fixed assets. This is the net change in fixed assets before the effects of depreciation.
This measurement does not account for any financing sources, such as the use of debt or stock sales to offset any negative cash flow from assets.
Examples of Cash-Producing Assets
A business may own an array of assets that generate positive cash flow. Here are several examples:
Factories. For any organization that manufactures goods, the bulk of its cash flow comes from its factories. The machinery and other equipment within a factory are essential to this cash generation.
Inventory. Retail organizations acquire merchandise and sell it off at a markup in order to generate cash flow.
Investments. A business may invest in all types of securities in order to generate dividend and interest income.
Real estate. A business may invest in real estate in order to generate rental income. This is how a real estate investment trust generates income.
Royalties. A business may own intellectual property on which it collects royalties. Examples are books, formulas, circuit designs, and brand labels.
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Example of Cash Flow from Assets
A business earns $10,000 during the measurement period, and reports $2,000 of depreciation. It also experiences an increase of $30,000 of accounts receivable and an increase of $10,000 in inventory, versus an increase of $15,000 in accounts payable. The business spends $10,000 to acquire new fixed assets during the period. This results in the following cash flow from assets calculation:
+$12,000 = Cash flow generated by operations ($10,000 earnings + $2,000 depreciation)
-$25,000 = Change in working capital (+$15,000 payables - $30,000 receivables - $10,000 inventory)
-$10,000 = Fixed assets (-$10,000 fixed asset purchases)
-$23,000 = Cash flow from assets
How to Create Positive Cash Flow
Management can generate positive cash flow from assets by using a variety of techniques, including the following:
Raise prices. Being able to raise prices depends on whether you have a unique product that customers are willing to pay for; conversely, the prices of commoditized products cannot be raised without losing sales.
Redesign products to reduce materials costs. This is most effective when you can design a product family around a standardized product platform.
Cut overhead to reduce operating costs. Cutting overhead usually means focusing on discretionary costs that you can do without for a period of time, but can also include a continual paring of other types of expenses, usually by streamlining processes.
Tighten credit to reduce the investment in accounts receivable. This approach will eliminate higher-risk customers and cut bad debts, but may also reduce your overall sales.
Lengthen payment intervals to suppliers. You should not arbitrarily extend supplier payment terms, since they will cut off your credit. A better approach is to negotiate longer terms with them, one at a time.
Switch to using lease financing to acquire fixed assets. Leasing eliminates the need for a large up-front capital expenditure, but you will have to pay the interest rate built into the associated lease payments.