1. What Is Free Cash Flow?

Free cash flow (FCF) is the cash your business has left after it pays for its everyday operations and necessary long-term investments, such as equipment and major software or fit-outs.

In simple terms, it answers the question:

“After running the business this year and paying for the gear we need, how much cash is left over to use freely?”

A common way to think about it is:

Free cash flow ≈ Operating cash flow − Capital expenditure

Operating cash flow is the cash generated from your normal trading (customers paying you, minus payments to suppliers, wages, overheads, interest and tax). Capital expenditure is money you spend on assets that last several years, such as machinery, vehicles, or core systems.

2. Why Free Cash Flow Matters

Profit tells you whether your business model works on paper. Free cash flow tells you how much real cash is available to strengthen and grow the business. When free cash flow is strong, you can:

• Reduce or clear business debt faster
• Build a genuine cash buffer for uncertain periods
• Invest in new equipment, team members or systems with more confidence
• Pay owners a sustainable wage and dividends, rather than drawing down on overdrafts

When free cash flow is weak or negative for too long, the business usually:

• Relies heavily on overdrafts and credit cards
• Struggles to pay tax, super, or suppliers on time
• Finds it hard to invest in growth, even if sales are strong

If you have ever wondered why the business looks profitable but you still feel under pressure every month, your free cash flow is the number to watch. For more context on this, see our article on why profit isn’t cash flow.

3. How to Calculate Free Cash Flow Step by Step

The easiest place to start is with your cash flow statement. If you use Xero, MYOB or QuickBooks, you can usually generate a cash flow report for the year.

Step 1: Find your operating cash flow

Look for the section often called “Net cash from operating activities”. This number reflects the cash generated by trade — receipts from customers, minus payments to suppliers, wages, rent, tax and so on.

Step 2: Identify your capital expenditure

Next, review the “Investing activities” section. You are looking for amounts spent on long-term assets such as:

• New machinery, vehicles and major tools
• Fit-out costs for premises
• Core business systems (for example, a full ERP implementation)

Step 3: Subtract capex from operating cash flow

Once you have those two numbers:

Free cash flow = Operating cash flow − Capital expenditure

A positive result means the business is generating more cash than it needs to run and reinvest. A negative result doesn’t automatically mean trouble, but it does mean you are relying on debt or extra capital to fund your plans.

If you are unsure how to read these reports, a bookkeeper or accountant can help you interpret the numbers. You might also find it helpful to review our guide on how to create a budget that works, so your budget and cash flow speak the same language.

4. Why Free Cash Flow Can Be Weak Even When Profit Looks Fine

Many owners are surprised when they see that free cash flow is low or negative while the profit and loss report shows a healthy profit. Common reasons include:

• Heavy capital spending. Investing in new equipment or large software projects can temporarily push free cash flow down, even if profit is steady. This may be a planned, sensible decision — provided there is a clear path for that investment to improve future cash generation.
• Slow customer payments and rising receivables. If customers take a long time to pay, your reported profit includes revenue that hasn’t yet turned into cash. That weakens both operating cash flow and free cash flow. Improving debtor collection often gives one of the fastest boosts to free cash flow.
• Inventory and work in progress tying up cash. Buying stock far in advance or carrying long work in progress (WIP) ties up cash that could otherwise sit in the bank. Tightening purchasing and job management can release cash without cutting growth.
• Debt levels that are too high. Interest and principal repayments on loans eat into free cash flow. Even if those loans originally helped you grow, the repayments reduce how much cash is left for other purposes.

5. How Better Bookkeeping Supports Free Cash Flow

Free cash flow is not just a finance buzzword — it is built from day-to-day bookkeeping decisions. Good systems make it easier to:

• Issue invoices quickly and follow up overdue accounts
• Reconcile bank accounts properly so you can trust your cash reports
• Track inventory and work in progress with enough detail to avoid unnecessary build-up
• Monitor GST and tax obligations so they do not suddenly drain cash

If your bookkeeping is always behind or reports don’t balance, it is very hard to see free cash flow clearly. Our article on GST for Australian business owners explains how timing differences in GST, BAS and PAYG can also affect when cash actually leaves your account.

With clean, up-to-date books, you can use free cash flow as a practical decision tool: Can we safely hire? Can we upgrade this system? Can we pay down this loan faster?

6. Using Free Cash Flow to Make Better Decisions

Once you know your free cash flow, it can guide decisions such as:

• How quickly to repay loans or overdrafts
• Whether to lease or buy new equipment
• When to increase owner drawings or dividends
• How much to keep in a cash reserve for quieter periods

For a deeper dive into managing overall cash position (not just free cash flow), it may be helpful to read official resources such as the ATO guidance on cash flow and small business tips from business.gov.au.

The goal is not just a bigger profit figure — it is a business that consistently generates surplus cash that you can use with confidence.

7. When to Get Help

If you are not sure where your free cash flow stands, or you feel like you are always working hard but never getting ahead, it can help to have an external pair of eyes review your numbers.

A structured review usually looks at:

• Quality and timeliness of bookkeeping data
• Cash flow patterns over the last 12–24 months
• Levels of capital expenditure and debt
• Whether pricing, margins and overheads are aligned

From there, you can build a roadmap: tighten working capital, plan capital spending, and set realistic targets for improving free cash flow year by year.

If you already have a budget in place, linking it to cash and free cash flow can turn it into a much stronger management tool. You can explore budgeting ideas in our article on creating a budget that actually works.

Free cash flow is where profit becomes real. When you understand it and manage it intentionally, you gain more control over growth, debt, and the financial safety of your business.