In this article
You might like
No items found.
Spending made smarter
Easy-to-use cards, spend limits, approval flows, vendor payments —plus an average savings of 5%.1
4.8 Rating 4.8 rating
Error Message
No personal credit checks or founder guarantee.
Thank you! Your submission has been received!
Oops! Something went wrong while submitting the form.
Get fresh finance insights, monthly
Time and money-saving tips,
straight to your inbox
4.8 Rating 4.8 rating
Thanks for signing up
Oops! Something went wrong while submitting the form.
Table of contents

Most investors have been trained to look at EBITDA when evaluating the financial health of a business. Unfortunately, that number can be manipulated by inflating depreciation and amortization costs.

The operating cash flow (OCF) number is more accurate because it can provide an unencumbered view of how the company is doing after operating expenses. In this article, we’ll explain what that means and why it’s important for your business.

What is operating cash flow?

Operating cash flow is, as the name suggests, the amount of cash your business has left over after covering operating expenses. But note that we’re not talking about revenue—that’s a different number entirely. The revenue reported on the income statement is not necessarily cash-in-hand. That’s another reason why EBITDA can be misleading for investors and shareholders.

Simply put, operating cash flow is the best form of liquidity. As a business owner, it’s an important asset to have because bills and lenders must get paid and expenses need to be covered. Covering all current liabilities with operating cash flow is an indicator of a financially healthy and well-run business.

Comparing operating cash flow to net revenue at the end of a reporting period can illuminate the effectiveness of accounts receivable policies. A significant disparity, with revenue outpacing cash-on-hand, could indicate potential challenges in meeting monthly financial commitments. Since the cost of goods sold (COGS) fluctuates, maintaining adequate cash reserves is essential to cover these expenses.

As a small business owner, you recognize the importance of maintaining cash reserves to manage costs and expenses. However, growth introduces complexities that can challenge the maintenance of optimal operating cash flow (OCF). With rising costs and the potential need to extend terms to vendors and customers, it's crucial not to solely depend on EBITDA for planning. Remember, cash is a liquid asset, whereas accounts receivable is not, highlighting the importance of cash availability for operational stability.

How to calculate operating cash flow: formulas + examples

There are two ways to calculate operating cash flow. Both will get you the same result. With the indirect method, you start with the net income and then add back depreciation expense, the decrease in accounts receivable, and the increase in accrued expenses payable. Once the additions are done, deduct the increase in inventory and the decrease in accounts payable.

The direct method for calculating operating cash flow is much simpler and should be familiar to those who are using zero-based budgeting. Add up all the cash received from customers, then deduct cash paid to employees, supplier payments, and any interest payments. If you use this method, a reconciliation of net income to the cash from operating activities is required.

Most of the larger corporations in the United States use the indirect method to calculate operating cash flow because the reconciliation is built into the process. It may seem like a convoluted way of doing this, but by starting with the net income, and going through the steps of addition and subtraction, you ensure the accuracy of the result.

How to calculate (and interpret) your businesses operating cash flow ratio

The math is simple for this. Net cash flow from operations is a line item on your cash flow statement. The OCF ratio is calculated by taking that number and dividing it by your current liabilities, which can be found on your balance sheet. Your target number is 1.5-2.0. Scoring 1.0 or lower means you have a cash flow problem.

Why is this important? The operating cash flow ratio tells you whether you can pay all your current liabilities with cash and how much is left over after you do that. Companies with higher margins often have a higher OCF ratio. For instance, e-commerce cash flow ratios are typically higher than restaurant cash flow ratios because their costs are lower.

Of course, a higher margin doesn’t guarantee a higher OCF ratio. Businesses that offer net terms to their customers can create a cash flow crunch if their costs need to be covered before customer payment is received. Sellers of premium products often face this predicament. Margins are high, but they make fewer sales and need to wait to get paid.

Operating expenses on the cash flow statement include fixed costs like rent and salaries. Those don’t change when cash inflows slow down. The OCF ratio is a metric that tells the business owner when they need to seek other sources of funding, like e-commerce financing or a line of credit from the bank to cover expenses between customer payments.  

Operating cash flow vs free cash flow

Operating cash flow (OCF) is the amount of cash available after all cash outflows for the reporting period have been deducted from the sum of the cash inflows. Free cash flow is the number you get when you start with operating cash flow and deduct any money spent on long-term capital expenditures (CAPEX), like property, plants, or equipment.

To avoid confusion, think of “operating” cash flow as the cash needed to “operate” your business. “Free” cash flow is what’s “free” for distribution to shareholders before you pay out any cash for debt payments, dividends, or share repurchases. Banks look at free cash flow before setting limits for loans or lines of credit. Investors use it as a liquidity metric.

Here’s an example:

Company A has $20,000 a month in cash inflows. Their cash outflows are $10,000, leaving a net cash from operations of $10,000. That’s the OCF. The OCF ratio is 1.0 because net cash = current liabilities. From there, deduct $5,000 for a new equipment purchase. Now you have $5,000. That’s your free cash number.

Operating cash flow vs net income

Operating cash flow and net income are two entirely different numbers. Net income is found on the income statement. Learn how to prepare an income statement here. It is based on revenues, not cash inflows. This is an important distinction because in accrued accounting revenue is recorded at the point of sale, not the point of payment. The cash inflow for that sale could come several months later.

Another difference is that the total net income is calculated by deducting depreciation and amortization, gain or loss on financial instruments, and interest expenses. Operating cash flow only includes cash outflows for current liabilities. The operating cash flow ratio is a tool that can be used for small business expense management.

Net income is a reported number for investors and shareholders, but it doesn’t tell the whole story. Understanding how much cash you have in hand and whether it will cover all your current liabilities is a valuable insight that can keep a company on track. That’s why OCF and the OCF ratio are critical.

How Ramp can help track and control cash flow

In the past, your accounting department would use a double-entry general ledger and T-accounts to keep track of debits and credits. Today, everything is automated. All the math is done by small business accounting software integrated with your bank. Financial reports are compiled automatically, including cash flow statements.

Ramp can help by connecting with your accounting automation software and giving you a dashboard where you can track expenses in real time. We can even issue you corporate charge cards so you can control where your company’s money is spent. Calculating your OCF ratio is only part of the equation. Ramp can help you improve that number and increase your liquidity.

Take our interactive demo today.

Try Ramp for free
Error Message
No personal credit checks or founder guarantee.
Thank you! Your submission has been received!
Oops! Something went wrong while submitting the form.
Content Lead, Ramp
Fiona writes about B2B growth strategies and digital marketing. Prior to Ramp, she led content teams at Google and Intercom. Fiona graduated from UC Berkeley with a degree in English. Outside of work, she spends time dreaming about hiking the Pacific Crest Trail one day.
Ramp is dedicated to helping businesses of all sizes make informed decisions. We adhere to strict editorial guidelines to ensure that our content meets and maintains our high standards.


Is operating cash flow the same as EBIT?

No. EBIT is calculated by deducting the cost of goods sold (COGS) and operating expenses from revenue. Operating cash flow is calculated on the cash flow statement.

How do you calculate operating cash flow?

The simplest way (direct method) is to add up all the cash received from customers, then deduct cash paid to employees, supplier payments, and any interest payments.

How can Ramp help with operating cash flow?

Ramp can help by connecting with your accounting software and giving you a dashboard where you can track expenses in real time. We can even issue you corporate charge cards so you can control where your company’s money is spent.

How Crowdbotics streamlined, centralized, and saved with Ramp

“We switched from our legacy provider to Ramp in under a week and heard zero complaints."
Miles Lavin, VP of Strategic Finance, Crowdbotics

How Ramp Helped REVA Air Ambulance Save Time, Improve Visibility, and Gain Peace of Mind

“We were able to mold Ramp to our company to set it up as needed within departments. But the biggest selling feature to us was the automatic, real-time integration with Sage.”
Seth Miller, Controller, REVA

How Heyday Skincare gained control over 23+ entities with Ramp

“Ramp has been a saving grace by organizing and consolidating systems and giving us real time visibility across 23 entities.”
Shawn Gordon, Sr. Accounting Manager, Heyday Wellness

How Ramp helped Rustic Canyon Restaurant Group promote a culture of financial awareness and responsibility

"Ramp has helped promote a culture of awareness and accountability, there's no swipe your card and forget about it, people are more attuned to why and how they are spending."
Derek Arnette, Controller, Rustic Canyon Restaurant Group

How Ramp helped Viking Well Service institute a more efficient expense management process

“Having the purchase order and bills all in one place just makes a whole lot more sense for the type of business that Viking’s doing, because you can simplify it down to a one-line-item type deal. That’s really important for control purposes, for visibility."
Chris Lowdermilk, Senior Controller, Viking Well Service

How Ramp Procurement helped NPHY simplify, save time, and improve transparency

“Before Ramp Procurement, requests could take up to a month. Now the process is complete in a matter of days, meaning we can get much needed supplies and focus on delivering care to our clients (teenagers in crisis) faster.”
Michelle LaBonney, Director of Finance & Operations, Nevada Partnership for Homeless Youth

How Betterment manages corporate spend for five entities with Ramp

“With Ramp, we can save rules directly to the card. Transactions from any of our monthly vendors come in already coded, so that’s been a huge time saver.”
Marianne Hawes, Senior Accountant, Betterment