Cash Flows

654 Words Jan 29th, 2018 3 Pages
Cash flows are important, in simple terms, because cash is what is used to pay for things. Cash flow analysis removes non-cash flow items from the income statement (such as depreciation) and this allows management to understand better the actual business conditions. There are many instances where the net profit fluctuates, but the cash flow from operations does not. That the net profit is subject to variance from non-cash items, including from writedowns, highlights the importance of adding cash flow from operations to the analysis.

In addition, the cash flow analysis allows the company to have a better understanding of its sources of cash flow. The company can source its cash flow from debt or equity, the latter of which includes operations. Companies should understand where there money is coming from are they making it or just borrowing it? In addition, cash flow from investing activities gives management a sense of how much is being plowed back into the company, not into operations but into building for the future.

2. Liquidity ratios are used to measure the ability of the company to meet its obligations for the coming year. The main liquidity ratio is the current ratio, which is the current assets over current liabilities. The quick ratio excludes inventories from the current assets, and the cash ratio is simply the amount of cash divided by the current liabilities. These ratios are often benchmarked against industry norms and against past performance.…

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