Q: What is a good cash flow to net income ratio?
A: For most profitable, established companies, a ratio at or above 1.0 over time is a healthy sign. What matters most is consistency and how the ratio compares with close peers in the same industry.
Cash Flow to Net Income
Metadata
- Category
- Ratios
- Units
- Ratio (x)
- Formula
- Cash from Operating Activities / Net Income
- Source
- Calculated by GeminIQ from figures reported in SEC filings
Definition
Cash flow to net income divides a company's cash from operating activities by its net income for the same period. It shows how many dollars of operating cash the business generated for every dollar of profit it reported, and it is one of the simplest tests of whether reported earnings are backed by cash.
A ratio above 1.0 means operating cash flow exceeded net income. A ratio below 1.0 means the company booked more profit than it collected in cash from its operations during the period.
Details
Both figures come from the cash flow statement in a company's SEC filings, which under ASC 230 typically starts from net income and reconciles it to operating cash flow. In XBRL, operating cash flow is usually tagged NetCashProvidedByUsedInOperatingActivities and net income attributable to the parent is tagged NetIncomeLoss. The gap between them is made up of non-cash charges such as depreciation, amortization, and stock-based compensation, plus changes in working capital such as receivables, inventory, and payables.
Capital-intensive companies usually run well above 1.0 because depreciation is a large non-cash expense. A fast-growing company can run below 1.0 simply because it is building receivables and inventory to support higher sales. Heavy stock-based compensation lifts the ratio, since the expense reduces net income but is added back in operating cash flow even though it dilutes shareholders. The ratio is not meaningful when net income is zero or negative, because the sign flips and a larger ratio no longer means better quality.
Analysts watch the trend more than any single year. A ratio that stays below 1.0 for several periods while earnings rise can indicate aggressive revenue recognition or cash tied up in slow-paying customers. A consistently high ratio supports the view that profits are real, and it pairs naturally with free cash flow, which goes one step further by subtracting capital spending.
FAQ
Q: Why would operating cash flow be lower than net income?
A: Usually because working capital absorbed cash. Rising receivables, growing inventory, or paying suppliers faster all reduce operating cash flow without affecting reported profit.
Q: Is this ratio useful for loss-making companies?
A: Not really. When net income is negative, the ratio produces a negative or misleading number. For those companies it is more useful to look at operating cash flow directly.
Related Terms
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