Operating Cash Flow Formula

70% of small businesses are optimistic about their finances — both now and in the future. Yet for nearly 30% of SMBs, running out of cash is the top cause of failure.

Arming yourself with a little accounting know-how can keep you in control of your business finances, making sure you stay profitable in the short- and long-term.

Today, we’re going over operating cash flow. What is operating cash flow, and why is it important for your business? Then we’ll go over how to calculate operating cash flow using the formula and an example to help you through. Check it out:

What is operating cash flow?

Operating cash flow is the part of the cash flow statement that shows how much money a business earns from typical operations. It’s calculated as revenue minus operating expenses. Operating cash flow represents a company’s overall ability to turn a profit. Negative operating cash flow means businesses might need to secure additional funding in order to keep the wheels turning.

Normal business operations include things like providing services, payroll, marketing and advertising, and similar activities necessary to carrying out your business. Operating cash flow does not account for things like investments or interest.

Operating cash flow is also known as OCF, cash flow provided by operations, cash flow from operating activities, and free cash flow from operations.

OCF is different from free cash flow (FCF) because FCF accounts for capital expenditures (CAPEX), while OCF does not.

Generally speaking, you want to aim for a higher OCF. This will mean that you’re increasing capital without the need for investments or funding.

It’s important to keep an eye on OCF over time, too. The metrics should trend upward, indicating an increase in profitability.

Operating cash flow vs. net income vs. earnings per share

Operating cash flow is not the same as net income. First, let’s look at basic definitions of each:

  • Operating cash flow: cash generated from normal business operations
  • Net income: total income generated from sales, including investments and minus total expenses
  • Earnings per share: the amount of profit allocated to each outstanding share of stock

More specifically, net income (or net earnings), is total sales minus the cost of goods sold, associated expenses, operating expenses, depreciation, interest, taxes, and any other costs. Net income gives a more comprehensive look at the overall profitability in terms of the value of your business, while OCF looks at profitability in terms of capital you can physically use in your business.

Why is operating cash flow important?

OCF indicates how self-sustainable a business is in terms of generating an ongoing profit relying solely on standard business operations.

This is important from a few perspectives:

  • Financial analysts: For larger companies especially, financial analysts pay particular attention to OCF. Because it indicates the overall health and profitability of a business, it’s a key indicator of the company’s financial status.
  • Investors: Investors want to put their capital towards something that will grow and make them a lot of money. A healthy OCF will instill confidence in investors and proof of your ability to generate an ROI on their investment.
  • Lenders: When assessing potential borrowers, financial institutions consider the likelihood of getting their money back. Businesses with a favorable OCF can boost their chances of loan approval.

The most important perspective of all is the business owner. It’s important that you’re in tune with your business’s ability to generate a profit on its own. Track this metric over time so you can see when your business is becoming more or less profitable and then dig into why.

How to calculate the operating cash flow formula

As we mentioned before, OCF is revenue minus operating expenses. The simplest formula goes like this:

Operating cash flow = total cash received for sales - cash paid for operating expenses

The OCF formula is also written out in other ways, with different terms:

OCF = (revenue - operating expenses) + depreciation - income taxes - change in working capital

OCF = net income + depreciation - change in working capital

OCF = net income - changes in working capital + non-cash expenses

Essentially, you want to adjust for things like depreciation, increases in accounts receivable, and other non-cash and non-operating expenditures from your net income.

It’s important to use data from the same accounting period — otherwise, you risk inaccurate results.

Operating cash flow example

Now let’s look at an example to put this all into perspective.

Here’s the scenario: You have a small event planning business. Your cash came from invoicing customers a total of $100,000 for the fiscal year. During that same period, you spent $5,000 in operating expenses: things like membership subscriptions, professional development training, and social media ads.

You also own a company vehicle, which you use to drive to and from event venues, suppliers, clients’ homes, etc. You estimate that it depreciated $3,000 during that same year.

Come tax time, you ended up paying $25,000. Your net income = $100,000 - $5,000 - $3,000 - $25,000, coming in at $67,000.

So, to calculate your OCF, we’ll plug in the formula as follows:

OCF = net income + depreciation

OCF = $67,000 + $3,000

OCF = $70,000

While you could *technically* say you earned six figures that year, you really only turned a profit of $67,000 and your OCF was $70,000 — a more realistic number representative of the state of your business.

Moving forward with operating cash flow

Operating cash flow is an important accounting metric to help businesses understand their ability to turn a profit from normal business operations. Calculating this number helps you understand not only how much money you’ve generated, but also how much capital you keep after accounting for things like taxes, depreciation, and operating costs.