Operating Cash Flow | 5 mins read

The Three Ways to Calculate Operating Cash Flow

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Cynthia Vespia

By Cynthia Vespia

What Operating Cash Flow Is

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Operating cash flow (OCF) is a financial metric that measures how cash is flowing into a business and what portion of that revenue can be used to pay off current debt. An operating cash flow ratio is beneficial at monitoring short-term liquidity of a company without manipulated earnings skewing results.

Determining the cash flow ratio comes down to a formula which equals the combination of net income, non-cash expenses and any changes in working capital.

What is Cash Flow from Operations?
OCF has long been considered the most important value regarding company accounting. Its representative of the cash flow that business operations are producing on a daily basis.

The value in the number shows important information regarding the financial health of a company. This is why investors spend many hours raking over the OCF with sharp eyes.

If a company pulls a negative OCF, the chances of retaining solvency diminishes. This result will show a lack of revenue being generated to sufficiently meet operational needs. Should a negative OCF become evident, additional cash flow needs to be sourced from areas other than the core business operations. Financing or investment measures are often looked to first as sources of cash flow.

Interpreting Operating Cash Flow Ratio
Cash flow ratios that are less than 1 signifies a lack of revenue generated by business operations. This means there won't be enough cash for the business to pay off short-term liabilities. More capital will be needed to avoid the development of long-term problems.

A ratio that is higher than 1.0 is lauded by any creditors or investors. This high number shows good faith that any short-term liabilities will be paid in a timely manner. High value ratios also offer left over earnings which can be re-invested in the company. Companies operating with high ratios of cash flow are considered in good health financially and a worthy investment to make.

  • The operating cash flow is a ratio that determines a company's financial health and whether they will be able to pay off debt.
  • This ratio is indicative of the short-term liquidity generated from core operations of the business.
  • Ratios that fall under the number 1 show cash flow problems. Anything over 1 means cash is flowing from the core business operations steadily.

The Three Operating Cash Flow Formulas and how they work

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Cash flow reflects how much money is moving in and out of a business. Using a cash flow formula to calculate earnings is important to maintaining financial health for any small business. In fact, 30% of small businesses fail due to lack of funds. Another 60% of small business owners are uncertain how to manage finances for their business.

Every business owner should know what their cash flow is and how it affects their business. There are three operating cash flow formulas commonly used.

1. Free cash flow formula (FCF)
Calculating available cash on hand helps business owners know what they have available to spend. Using the FCF establishes a base line for
budget options.

How to calculate free cash flow
The cash flow calculation will need to start by pulling numbers from a balance sheet or income statement from the business. The formula to calculate free cash flow would then look like this-

Free Cash Flow = Net income + Depreciation/Amortization Change in Working Capital Capital Expenditure

2. Operating cash flow formula
Where the free cash flow establishes a baseline for continued business revenue minus expenses, it often doesn't showcase an accurate daily flow of cash. Because the FCF doesn't factor in any irregularities within spending or earning, it won't reflect atypical income that might raise or lower assets.

Therefore, to get a better understanding of typical cash flow a new formula is needed. This formula, called the operating cash flow (OCF) is what banks look at before issuing funding. The operating cash flow is also what a financial accountant or consultant will need to see for funding information.

How to calculate operating cash flow-
Similar to the free cash flow formula, a balance sheet or income statement will be needed for the operating cash flow formula. A further metric will be needed to make this calculation accurate and that's the operating income, or Earnings Before Interest and Taxes.

The formula for operating cash flow would be-

Operating Cash Flow = Operating Income + Depreciation Taxes + Change in Working Capital


3. Cash flow forecast formula
Both the FCF and OCF formulas show a general idea of how much cash is coming into the business for a certain time period. However, anticipating future needs will require a different calculation. Figuring out cash flow for a specific quarter keeps a business from overspending.

How to calculate your cash flow forecast-
Fortunately, the formula to calculate cash flow forecast is simple to perform. The CCFF focuses on the amount of revenue expected for monthly periods like a simple 30 to 90 day forecast.

The formula looks like this-

Cash Flow Forecast = Beginning Cash + Projected Inflows + Projected Outflows = Ending Cash

Beginning cash will be how much cash the business has accumulated in total at that point. This number can be found on a Statement of Cash Flows. Projected inflows are added in. This number reflects the expectation of earnings for the time period. Project outflows means payments made towards expenses during the timeframe being calculated.

Tracking cash flow with these calculations will help a business remain on top of its finances. Simple calculations allow anticipatory action to solve cash flow problems before they start.

  • Free cash flow formula
  • Operating cash flow formula
  • Cash flow forecast formula

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Conclusion to Operating Cash Flow

  • Calculating operating cash flow tells a business how much revenue is coming from from its core operations. Knowing this, helps to create a financial plan going forward.
  • A ratio higher than 1.0 is from a cash flow calculation will catch the attention of creditors and investors. It shows high value and faith that any short-term demands will be paid off.
  • Companies operating with high ratios of cash flow are considered a healthy investment.
  • Cash flow formulas are simple math equations to keep track of cash flowing in. A small business owner wants to understand how these cash flow formulas work to ensure no cash problems are coming.

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