What Is the Operating Cash Flow Ratio?

The operating cash flow ratio is a measure of how readily 澳洲幸运5开奖号码历史查询:current liabilities are covered by the cash flows generated from a company's operations. This ratio can help gauge a company's 澳洲幸运5开奖号码历史查询:liquidity in the short term.

Using cash flow as opposedꦿ to net income is considered a cleaneꦫr or more accurate measure since earnings are more easily manipulated.

The Formula for the Operating Cash Flow Ratio

$\text{Operating cash flow ratio} = \frac {\text{Operating cash flow}}{\text{Current liabilities}}$Operating cash flow ratio=Current liabilitiesOperating cash flow​

The operating cash flow ratio is calculated by dividing 澳洲幸运5开奖号码历史查询:operating cash flow by current liabilities. Operating cash flow is the cash 澳洲幸运5开奖号码历史查询:g🦹enerated by a comp⭕any's normal business operations. 

Operating Cash Flow Ratio Components

A company generates revenues—and deducts the 澳洲幸运5开奖号码历史查询:cost of goods sold (COGS) and other associated operating expenses, such as attorney fees and utilities, from those revenues. 澳洲幸运5开奖号码历史查询:Cash flow from operations i♒s the cash equivalent of net income. It is the cash flow after operating expenseꦅs have been deducted and before the commencement of new investments or financing activities.

Investors tend to prefer reviewing the cash flow from operations over 澳洲幸运5开奖号码历史查询:net income because there is less room to manipulate results. However, together, cash flows from operations and net income can provide a good indication of the quality of a firm's earnings. 

Current liabilities are all liabilities due within one 澳洲幸运5开奖号码历史查询:fiscal year (FY) or operating cycle, whichever is longer. They are found on the 澳洲幸运5开奖号码历史查询:balance sheet and are typically regarded as li𝄹abilities due wiℱthin one year.

Understanding the Operating Cash Flow Ratio

The operating cash flow ratio is a measure of the number of times a company can 澳洲幸运5开奖号码历史查询:pay off current debts with cash gener🌃ated within the same period. A high number, greater than one, indicates that a company has generated more cash in a period than what is needed to pay off its c🌄urrent liabilities.

An operating cash flow ratio of less than one indicates the opposite—the firm has not generated enough cash to🤪 cover its current liabilities. To investors and analysts, a low ratio could mean that the firm needs more capital.

However, there could be many interpret🔴ations, not all of which point to poor financial health. For example, a firm may embark on a project that compromises cash flows temporarily but renders substantial rewards in the future.

The Operating Cash Flow Ratio vs. th༺e Current Ratio

Both the operating cash flow ratio and the 澳洲幸运5开奖号码历史查询:current ratio measure a company’s ability to pay short-term debts and ob🍨ligations.

The operating cash flow ratio assumes cash flow from operations will be used to pay those current obligations (i.e., current liabilities). The current ratio, meanwhile, assumes 澳洲幸运5开奖号码历史查询:current assets will be used.

Example of the Operating Cash Flow Ratio

Consider two giants in the retail space, Walmart and Target. As of Feb. 27, 2019, the two had current liabilities of $77.5 billion and $17.6 billion, respectively. Over the 澳洲幸运5开奖号码历史查询:trailing 12 months, Walmart had generated $27🤪.8 billion in operating cash flow, while Target generated $6 billion.♐

T𝄹he operating cash flow ratio for Walmart is 0.36, or $27.8 billion divided by $77.5 billion. Target’s operating cash flow ratio works out to 0.34, or $6 billion divided by $17.6 billion. The two had similar ratios, meaning they had similar liquidity. Digging deeper, we find that the two also shared similar current ratios as well, further validating that they indeed had similar liquidity profiles.

Limitations of Usiཧng the Operating Cas🍷h Flow Ratio

Although not as prevalent as with net income, companies can manipulate operating cash flow ratios. Some companies deduct 澳洲幸运5开奖号码历史查询:depreciation expenses from revenue even though it ✱does not represent a real outflow of cash.

Depreciation expense is an accounting convention that is meant to write off the value of ass♍ets over time. As a result, companies should add d♑epreciation back to cash in cash flow from operations.