Cash Flow Ratios
Just as the interest coverage ratio could be expressed using cash flow rather than accounting income, other ratios can be adjusted to represent cash flow rather than accounting income as well. Here are a few examples:
- Cash flow solvency = (Cash flow from operations)/(Total liabilities)
- Cash flow margin = (Cash flow from operations)/(Revenue)
- Cash flow ROA = (Cash flow from operations)/(Average total assets)
A high cash flow solvency ratio indicates that the company has plenty of cash flow to settle obligations. A low ratio could be an indication of financial distress in the future. A high cash flow margin or cash flow return on assets indicates that the company generates large amounts of cash flow relative to revenues or assets – a good sign.
In addition, cash flow from operations can be compared to net income to estimate earnings quality. A higher ratio of (cash flow from operations)/(net income) typically indicates higher earnings quality.
Also, the ability of the firm to invest in future growth can be determined if the ratio of (cash flow from operations)/(capital expenditures) is higher than one. This indicates the company is able to fund capital expenditures out of operating cash flows.
The Intelligent Investor: The Classic Text on Value Investing
Financial Statement Analysis: A Practitioner's Guide, 3rd Edition
Managing Investment Portfolios: A Dynamic Process (CFA Institute Investment Series)
