Operating Cash Flow Formula signifies the cash flow generated from the core operating activities of the business after deducting the operating expenses and helps in analyzing how strong and sustainable is the business model of the company.
Formula of Operating Cash Flow (Table of Contents)
What is Operating Cash Flow (OCF) Formula?
Operating cash flow (OCF) is a measure of the cash that a business produces from its principal operation in a specific time period. OCF is also known as cash flow from operations.
Operating Cash Flow is not the same as net income neither EBITDA nor free cash flow but all are used for measurement of performance of a company. As net income includes a transaction that did not involve the actual transfer of money like depreciation which is a non-cash expense that is part of net income not of OCF.
Formulas to Calculate Cash Flow from Operations (OCF)
There are two formulas to calculate Operating Cash Flow – one is a direct method and other is an indirect method.
#1 – Direct Method (Operating Cash Flow Formula)
This Operating Cash Flow (OCF) Formula method is very simple and accurate. But as it does not provide much detail information to the investor, therefore companies use the indirect method of OCF. OCF is equal to Total revenue minus Operating expense.
The formula for the calculation of Operating Cash Flow (OCF) using direct method is as follows –
#2 – Indirect Method (Operating Cash Flow Formula)
The indirect method is adjusted net income from changes in all non-cash accounts on balance sheet. Depreciation is added to net income while adjusting changes in inventory and cash receivable. And OCF calculates with net income adds any non-cash item, and adjusts for changes in net capital this provide total cash generated.
Operating Cash Flow formula using the indirect method can be represented as follows –
Explanation of Operating Cash Flow Formula
Now, let us see what are the main steps required to calculate Operating Cash Flow Equation.
- Net income considered as starting point.
- All non-cash items are added like depreciation, Stock-based compensation, other expense or other income, deferred taxes.
- Changes in working capital adjustment that includes inventory, account receivable and unearned revenue.
The full formula of Operating Cash Flow (OCF) is as follows:-
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OCF = Net Income + Depreciation + Stock-Based Compensation + Deferred Tax + Other non-cash items – Increase in Account Receivable – Increase in Inventory + Increase in Accounts Payable + Increase in Accrued Expenses + Increase in Deferred Revenue
Component of Operating Cash Flow Formula
Let’s analyze the various component of the OCF Formula, which are as follows:-
- Net income is base income which is required.
- Depreciation helps to account expensing property, plant, machinery etc.
- Stock-based compensation which is paid in non-cash form like in form of shares.
- Other expense/income it includes unrealized gains or losses.
- Deferred Tax is a difference of tax which company paid and their financial statements.
- Inventory is reduced in an OCF formula as inventory increase leads to a decrease in cash.
- Accounts receivable is subtracted as an increase in account receivable reduce cash that means that amount is not paid by a customer.
Hence, in short, OCF formula can be written as:-
Examples of Operating Cash Flow Formula (with Excel Template)
Let’s see some simple to advanced example to understand the calculation of Operating Cash Flow Equation Better.
Operating Cash Flow Formula – Example #1
Suppose, there is a company with total revenue of $1,200 and overall operating expense of $700 and now, if one wants to calculate Operating Cash Flow (OCF) then the Direct method will be used.
In below template is the data for the calculation of Operating Cash Flow Formula
So, the calculation of Operating Cash Flow (OCF) will be as –
i.e. OCF Direct = 1,200 – 700
So, OCF will be –
Therefore, OCF = $500
Operating Cash Flow Formula – Example #2
Now, suppose a company has net income of $756, non-cash expense of $200 and changes in asset liability i.e. inventory is $150, account receivable $150. Then, Operating Cash Flow through indirect method will be as follows:-
In below template is the data for the calculation of Operating Cash Flow Equation.
So, the calculation of Operating Cash Flow (OCF) using indirect method will be as –
i.e. OCF Indirect = 756 + 200 – 150 – 150
So, OCF will be –
OCF = $256
GAAP requires a company to use an indirect method to compute the figure as it gives all the necessary information and covers the same.
Operating Cash Flow Formula – Example #3
A company named Ozone Pvt. Ltd has financial statement into three sections i.e. operations activities, finance activities and investing activities. Below is an operation activities financial statement, through which we have to calculate Operating Cash Flow.
Now, let’s calculate OCF for different periods using the above-given data.
OCF For 2016
OCF2016 = 456 + 4882 + 2541 + 250 + 254 + 86 – 2415 – 1806 + 4358 + 856 + 1351
OCF2016 = $ 10,813
OCF For 2017
OCF2017 = 654 + 5001 + 2681 + 300 + 289 + 91 – 2687 – 1948 + 5213 + 956 + 1405
OCF2017 = $ 11,955
OCF For 2017
OCF2018 = 789 + 5819 + 3245 + 325 +305 + 99 – 2968 – 2001 + 5974 + 1102 + 1552
OCF2018 = $ 14,241
Hence, we found OCF for a different period of a company.
Things to remember about Operating Cash Flow Formula
- If OCF is negative, it means a company has to borrow money to do things or it may not stay in business but it may possible in long term company may get a benefit.
- It may be possible that a company has a high cash flow than net income. In this scenario, it is possible that a company is generating huge revenue but decrease them with accelerated depreciation on the income statement.
- When net income is high than OCF it may be possible that they have a difficult time in collection receivable from the customer. As depreciation as added in OCF formula, depreciation does not effect OCF.
- Investors should choose a company that has high or improving OCF but low share prices. A company can face loss or small profit in period because of large depreciation. However, it can have strong cash flow since depreciation is an accounting expense but not in cash form.
Operating Cash Flow Formula Calculator
You can use the following calculator for the calculation of Operating Cash Flow.
|Operating Cash Flow Formula =||Total Revenue – Operating Expense|
|0 – 0 =||0|
This has been a guide to Operating Cash Flow (OCF) Formula. Here we discuss how to calculate cash flow from operations using two formulas (Direct & Indirect Method) along with practical examples and downloadable excel template. You can learn more about financial analysis from the following articles –