This article is based on the 2011 Braga study "Assessment of Companies' Liquidity Through the Analysis of the Cash Flow Statement".Understanding your company's financial cycle is one of the main steps to ensuring that its finances are sustainable, which is why metrics for analyzing cash flow are so important.Although understanding that your cash flow is positive, because more money is coming in than going out, is only a superficial analysis that may indicate that you have good financial health.There are more nuances to the analysis, such as cash flow metrics and key performance indicators (KPIs), which help business owners and entrepreneurs ensure that a company will truly have cash resources to pay bills and allow the business to grow.About the Most Important IndicatorsJust like the other statements, the CFS serves as the basis for calculating many financial indicators. The most important measures are arranged into four distinct categories, as shown in the following tables. In this sense, each category is intended to meet one of the four objectives mentioned by SFAS No. 95 for the CFS.In preparing these indicators, the value of the net cash flow generated by operations (OCF) excludes unusual transactions.Cash Coverage IndicatorsWith regard to the first category, coverage ratios make it possible to assess the liquidity of the enterprise. The cash interest coverage ratio should complement the traditional interest coverage indicator.Cash Interest Coverage\[\frac{\text{OCF}}{\text{Interest}}\]Cash Debt Coverage\[\frac{\text{OCF}}{\text{liabilities}}\]Cash Dividend Coverage\[\frac{\text{OCF}}{\text{Total dividends}}\]Earnings Quality IndicatorsThe second category corresponds to earnings quality indicators. One type in this group consists of the cash quality of sales, which measures the proportion of sales revenues.Sales Quality\[\frac{\text{Sales Cash Flow}}{\text{Net Revenue}}\]Earnings Quality\[\frac{\text{Net Operating Cash Flow}}{\text{Operating Income}}\]Capital Expenditure IndicatorsThe third category covers capital expenditure measures.Capital Acquisitions\[\frac{\text{Net Operating Cash Flow}}{\text{Net Investment Cash Flow}}\]Investment / Financing\[\frac{\text{Net Investment Cash Flow}}{\text{Net Financing Cash Flow}}\]Cash Flow Return IndicatorsThe fourth category covers cash flow per share and return on investment indicators.Cash Flow per ShareCash flow per share is calculated as the cash available to common shareholders.\[\frac{\text{OCF}}{\text{Number of common shares}}\]Cash Return on Assets\[\frac{\text{OCF}}{\text{Total Assets}}\]Return on Liabilities and Shareholders' Equity\[\frac{\text{OCF}}{\text{Shareholders' Equity + Non-Current Liabilities}}\]Return on Shareholders' Equity\[\frac{\text{OCF}}{\text{Shareholders' Equity}}\]Example with Vale and CEMIGVale's Cash Flow and StatementsCemig's Cash Flow and StatementsCompany IndicatorsCVRD increased its generation of cash flows from operating activities in the 1997-99 period, which means that these activities contributed to raising the solvency levels of the company's business. CEMIG, however, showed a decline in cash generation from its operations in 1999. Interestingly, the financing activities of both consumed cash (net outflow), except in 1997 for CVRD, when they generated cash (net inflow). A significant variation occurred for CEMIG, whose net outflow from these activities grew more than sixfold from 1997 to 1998, a fact explained by the significant increase in dividend payments and interest on equity to shareholders. Net cash outflows from investment activities were always present; however, while CVRD increased them, CEMIG reduced them during the period.CVRD showed an investment-to-financing cash flow ratio of 5.19 in 1997, which means that the cash flows used for investments were more than five times greater than those obtained from financing activities. In the following year, and in both years for the other company, the ratio added no information, since there were net outflows from financing activities (denominator), instead of inflows. Its interpretation only makes sense when financing inflows finance investment outflows.In apparent terms, there was no need to raise the level of indebtedness, since operations generated quite satisfactory amounts of cash and cash equivalents. This surplus financed investment activities (the portions not covered by financing activities), in addition to providing a substantial cash balance in treasury.The dividend coverage ratio - which also included payments of interest on equity in the numerator - showed an upward trend for both organizations in the 1997-1998 period, but reversed this trend the following year.The operating cash flow-to-sales ratio, which measures the cash quality of net operating revenue (the degree of convertibility of net sales into cash and cash equivalents), showed a growth trend for CVRD, and stability followed by decline for CEMIG. For the latter, in 1999, something like only 20% of sales converted into cash. The operating cash flow-to-operating income measure initially remained stable at 1.22 for CVRD, and then increased. However, it rose and then plummeted for CEMIG, a fact caused by the presence of a net operating loss in 1999.The return on operating cash flow over total assets proved relatively stable for the companies over the three years. The highest rate, 13% (0.13), was recorded for CVRD in 1999: the company's total investment base (total assets) provided a 13% return in cash and cash equivalents. In addition, operating cash flow per share was calculated on a basis of one thousand shares, the same used by both companies in disclosing their earnings per share. Thus, both showed growth trends in this measure in the 1997-1998 period, which is explained by the strong cash generation from their respective operations: although the number of outstanding shares increased, the increases in OCF were more than proportional. Nevertheless, while CVRD showed a surprising ratio in 1999, CEMIG displayed its worst measure in the series.Bibliographic Reference1. Braga R, Marques JAV da C. Evaluation of company liquidity through analysis of the statement of cash flows. Rev contab finanç [Internet]. 2001 Jan;12(25):06–23. Available from: https://doi.org/10.1590/S1519-70772001000100001
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