Cash flow is the difference between cash inflows, which include sales proceeds, and cash outflows, which include salaries and interest payments. Cash flow is a true measure of a company's financial performance because it excludes noncash transactions, which are part of the net income calculation. The characteristics of high-cash-flow businesses include low cost structures and strong market positions.
Service
Service businesses tend to have high cash flow because they usually have minimal manufacturing, storage and distribution costs. A small consulting firm doesn't have to invest in expensive manufacturing equipment or warehouse space. The partners can work out of their home offices and lease computer equipment, which reduces overhead expenses. This enables the business to convert a greater proportion of its revenues into cash flow. An established service business with a reputation for quality could increase prices without necessarily losing customers. Higher prices mean higher revenues, which could lead to higher cash flow if the company can manage costs.
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Technology
Technology companies can generate high cash flow. This is especially true of software companies because they have minimal raw-material input costs and limited production costs. Companies with Internet-based delivery models, such as software-as-a-service, can achieve further cost efficiencies because they can deliver their products and services online. For example, a company that sells office productivity solutions can deliver product upgrades online, which would eliminate the need for manufacturing and distributing compact discs.
Companies can use Web-based training and remote installation procedures to reduce implementation and training costs, thus increasing cash flow while providing customer service. Technology companies can also generate steady cash flow by licensing their products.
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Regulated
Companies that operate in regulated industries or in markets with limited competition also generate high cash flow. Oligopolies, which are industries with a couple of participants, and monopolies, which have only one participant, generally have high cash flow because the companies in these industries can price their products to achieve certain margins. For example, utility companies that supply power to homes and businesses don't have competition in their respective markets. Although government agencies usually determine pricing levels for power generation, utility companies can generate consistently high cash flow by managing expenses.
Others
Franchises can generate high cash flow, especially for nationally recognized brands. They can start generating cash from day one because customers are aware of their products and services. Lending businesses, such as mortgage brokers and payday loan companies, may also generate high cash flow, especially when interest rates are low.
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