Negative Cash FlowDefined with Examples & More

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Negative Cash Flow Meaning

A company experiences a Negative Cash Flow when the Total Cash Outflow exceeds the Total Cash Inflow of the company for a specific accounting period.

Negative Cash Flows consider the overall operations of the company.

The three major activities of cash flows are Operating, Investing, and Financing.

Recording every cash movement from the three categories is vital to properly account for the total cash flow of the company in one accounting period. 

Business spending cannot be eradicated because every business operation starts from cash outflow which is normally spent on fuelling the company’s growth, entering new markets, establishing a client base, or maybe expanding distribution channels.

It is in the management’s strategy to turn excessive spending into more savings and generate a favorable cash flow.

Whenever the company experiences a negative cash flow, it must have a backup plan to support the lack of cash through equity or debt funding.  

Cash Flow Formula

Cash Flow computation is simple, but it needs a thorough understanding of every cash movement.

To calculate Cash Flow, the formula used is: 

cash flow formula

Cash, Cash Equivalents, Restricted Cash, Beginning Balance$ 8,750,000.00
OPERATING ACTIVITIES 
Net Income$ 21,765,000.00
Adjustments to Reconcile Net Income to Net Cash from Operating Activities: 
 Depreciation and amortization of Property, Plant and Equipment$ 25,887,000.00
 Stock-based Compensation$ 8,976,000.00
 Other Operating Expense (Income), net$ (765,000.00)
 Other Expense (Income), net$ (3,450,778.00)
 Deferred Income Taxes$ (576,250.00)
Changes in Operating Assets and Liabilities 
 Inventories$ (2,975,000.00)
 Accounts Receivable, net and other$ (18,778,950.00)
 Accounts Payable$ 18,545,550.00
 Accrued Expenses and other$ 6,135,000.00
 Unearned Revenue$ 1,650,000.00
 Net Cash Provided By (Used in) Operating Activities$ 56,412,572.00
INVESTING ACTIVITIES 
Purchase of Property, Plant and Equipment$ (43,667,900.00)
Proceeds from Property and Equipment sales and incentives$ 5,678,000.00
Acquisitions, net of cash acquired and other$ (2,780,950.00)
Sales and Maturities of Marketable Securities$ 49,887,095.00
Purchases of Marketable Securities$ (74,900,650.00)
 Net Cash Provided By (Used in) Investing Activities$ (65,784,405.00)
FINANCING ACTIVITIES 
Proceeds from short-term debt, and other$ 7,895,332.00
Repayment of short-term debt, and other$ (6,000,875.00)
Proceeds from long-term debt$ 11,234,908.00
Repayments of long-term debt$ (2,133,900.00)
Principal repayments of finance leases$ (11,204,500.00)
Principal repayments of financing obligations$ (78,900.00)
 Net Cash Provided By (Used in) Financing Activities$ (287,935.00)
Net Increase (Decrease) in Cash, Cash Equivalents, and Restricted Cash$ (9,659,768.00)
Cash, Cash Equivalents, Restricted Cash, Ending Balance$ (909,768.00)

Basic Calculation with Example

See below an example of the cash flow statement of RBC Company:

OPERATION 
Cash Received from Customers58,000.00
Cash Payments to Suppliers(42,000.00)
INVESTING 
Cash Received from the Sale of Old Equipment55,000.00
Purchase of New Equipment(78,000.00)
FINANCING 
Payment of Long-term Loan(48,000.00)
NET CASH FLOW(55,000.00)

With the figures shown above, the company suffers from a negative cash flow.

Users of the statement might think the company is in a very bad situation.

But looking at the operation segment of the cash flow statement, it obtained a positive cash flow which means the business’s day-to-day operations are doing well and can continue to operate for the time being. 

While the Investing and Financing Cash Flow might be negative, it doesn’t necessarily mean the company spends too much and receive nothing in return.

For example, in investing and financing categories, the company makes a large amount of cash outflow and has made several investments, expecting future benefits, or purchased land or new machinery for faster, easier, and more production inputs.

Interpretation of Negative Cash Flow

A Negative Cash Flow is Part of the Business

Every business enterprise will surely experience a negative cash flow.

Factors arising from such a situation may be due to a tight market competition that drives the company to put additional costs into innovation, product improvement, etc.

It is also due to fortuitous events like natural disasters or changing regulatory requirements. 

Better Assessment of Growth Opportunities and Evolution for the Future

A company may experience a negative cash flow because they invest heavily in its long-term plans of the company.

It must not be new to companies to draw cash out in order to keep up with the fast-paced business world and cutthroat competitions.

A vast number of competitors mastered the art of change and if a company does not give much importance to the possibility of change, its economic standing will surely be at the bottom of the market.  

A perfect example is the Nokia Company, considered to be the leading telecommunications and electronics corporation manufacturer back then.

But because it did not accept the challenge of change and innovation, it lost market leadership and was eventually acquired by Microsoft.

Growth potential 

Through growth potential, the company may gauge its financial condition for the current period.

It also helps in calculating a company’s ROI. If the negative cash flow amount continues to decrease, a confirmation that the spending in investment or financing categories of the cash flow is effective. 

In airline businesses, when the decrease rate does not occur regularly, one of the external factors to be considered could be the continuous increase in oil prices which can be unfavorable for investors.

Disadvantages Negative Cash Flow

Cash Crunch

Cash payments to suppliers and creditors may be inadequate due to a negative cash flow.

This is a bad experience for suppliers and may harm the business relationship of both parties.

Also, lack of cash may affect the payment of employees’ salaries on time. Because of this, employees might think of leaving the company. 

Increased Bank Charges and Interest Rate Risk

When a company experience a negative cash flow, it may seek help through debt or equity financing.

But finding such help requires additional cost and may affect the profitability rate of the company in the long run.

The primary cost attributed to debt financing is the interest expense which may expose the company to interest rate risk.  

Equity Dilution

If the company decides to seek help through equity funding, more specifically equity infusion, the only drawback is the dilution of ownership which can have its own implications.

The issuing entity may reduce its decision-making rights and this can cause a few hiccups in the implementation of the company’s plans. 

Conclusion

Experiencing negative cash flow does not necessarily mean the company is in a bad shape.

Some company spends a huge amount on long-term assets with the expectation of getting higher returns in the future.

However, if the company’s strategies do not go as planned, it could result in a big loss to the company’s overall operations.

While every company faces a negative cash flow once in a while, especially during the early years of the business, investors must exercise caution before making investment decisions. 

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  1. Harvard Business School "HOW TO READ & UNDERSTAND A CASH FLOW STATEMENT" Page 1 . August 25, 2022

  2. Harvard Business School "CASH FLOW VS. PROFIT: WHAT'S THE DIFFERENCE?" Page 1 . August 25, 2022