What Is a Cash Charge?
A cash charge is a charge against a company's earnings that is accompanied by a cash outflow.
- A cash charge is a charge against a company's earnings that reduces net income and is accompanied by a cash outflow.
- They are often linked to cash payments facilitating restructuring, downsizing, and general efforts to improve operating performance.
- Cash charges are usually of a non-recurring nature, appearing as an extraordinary expense in the company’s income statement.
- One-time charges aren't considered reflective of financial performance, so many companies report pro-forma earnings that exclude the impact of such charges.
Understanding a Cash Charge
A cash charge is a charge against a company's earnings, usually stemming from an isolated event that management doesn’t expect to occur again.
Cash charges often materialize when a company incurs expenses from restructuring, downsizing, and improving its operating performance. These one-off costs appear as an extraordinary expense in the company’s income statement and weigh on NI: a closely monitored metric revealing the money that remains after subtracting all expenditures, including operating expenses, costs of goods sold (COGS), interest and taxes.
Typically, the company will explain what the non-recurring cash charge is and why it should not be considered an expense that it will be exposed to again in the future in the management discussion and analysis (MD&A) section of its financial statement. In such cases, management will also provide investors with an adjusted earnings calculation that strips out the impact of these additional, one-off costs based on the logic that they distort its true profitability.
Companies regularly seek to play down the significance of cash charges, adjusting earnings to exclude their impact from financial figures.
Example of a Cash Charge
A company might make a cash charge against earnings to provide early retirement packages to higher-paid employees.
An initial cash outlay is required to fund the retirement packages. However, the expected cash savings measures implemented through reduced salary liabilities should eventually rationalize the upfront expense, boosting profitability over the long-run.
Cash Charge vs. Non-Cash Charge
One-time, non-recurring charges can either come in the form of a cash charge against earnings, triggered, for instance, by the cost of paying severance expenses to laid-off former employees, or a non-cash charge: a write-down or accounting expense that does not involve a cash payment.
Investors need to distinguish between a cash charge and a non-cash charge because they have very different ramifications for a company’s financial health and valuation, even though they both reduce NI. A cash charge is accompanied by a cash outflow, thus reducing the company’s cash position, whereas a non-cash charge—used in accrual accounting—represents an accounting charge.
Examples of non-cash, non-recurring charges include asset impairments, stock-based compensation, and changes to accounting methods. Both forms of charge can have a meaningful impact on a company’s financial standing and short-term capital needs.
Companies regularly seek to play down the significance of cash charges, particularly those deemed to be one-off ones. They argue that one-time charges do not reflect a company’s financial performance, and, as a result, often report pro-forma earnings that exclude the impact of such charges.
Some one-time charges do indeed only take place once. However, it’s also true that plenty of companies have a habit of incorrectly recording charges that they repeatedly incur in the course of their usual business activities as one-time charges, rather than operating expenses, to make the company’s financial health look better than it actually is.
Investors and analysts must watch out for any efforts to deceptively flatter financial performance. They should also contemplate whether cash charges are a cause for concern. Many are pre-flagged and harmless. Others may appear out the blue and serve as potential red flags of mismanagement, and a drastic shift in fortunes.