Operating Cash Flow Ratio

Loading the player...

What is the 'Operating Cash Flow Ratio'

The operating cash flow ratio is a measure of how well current liabilities are covered by the cash flow generated from a company's operations. The operating cash flow ratio can gauge a company's liquidity in the short term. Using cash flow as opposed to income is considered a cleaner, or more accurate, measure since earnings can be manipulated.

Operating Cash Flow Ratio

BREAKING DOWN 'Operating Cash Flow Ratio'

There are essentially two worlds in fundamental investment analysis; one is based on cash, and the other is based on earnings. Good fundamental analysts use both when researching the value of an investment.

Cash Flow From Operations

Earnings are derived from revenues. A company generates revenue, and then has to pay suppliers for the cost of goods sold and other expenses related to operations. It sounds simple, but there are many accounting conventions used to match revenues and expenses in the period they are incurred. It is a system referred to as accrual accounting. As a result, earnings may differ greatly from the actual cash flow of a company, and analysts like to use cash flow from operations as a cleaner proxy for profit than earnings or net income.

The Calculation and Interpretation

The operating cash flow ratio is calculated by dividing cash flow from operations (CFO) by current liabilities. Current liabilities are the portion of liabilities due within one year and can be found on the balance sheet. The operating cash flow ratio is a measure of the number of times a company can pay off current debts with cash generated in the same time period. A higher number means a company can cover its current debts more times, which is a good thing. Companies with a high or increasing operating cash flow ratio are in good financial health. Those that are struggling to cover liabilities may be in trouble, at least in the short term.


Companies can also manipulate cash flow from operations; it is important to be mindful of a few accounting conventions. Some companies deduct depreciation expense from revenue even though it does not represent a real outflow of cash. Depreciation expense is an accounting convention which is meant to write off the value of assets over time, but it is not real cash. As a result, companies add depreciation back to cash in cash flow from operations.

Another way companies can manipulate cash flow is by paying bills later. If companies pay bills later, they can extend payables and the cash they have on hand. Likewise, if companies adopt looser credit policies, they may increase revenue and accounts receivable, which decreases cash. It may seem counter-intuitive that a company can grow revenues and show a decrease in operating cash flow, but this is how it happens and savvy analysts know where to look to find it.