Cash Flow

Creative cash flow reporting refers to any and all steps used to create an altered impression of operating cash flow and, in the process, provide a misleading signal of a firm’s sustainable cash-generating ability. Steps employed to misrepresent a firm’s sustainable cash-generating ability may employ reporting flexibility within the boundaries of GAAP. Alternatively, steps may be taken that extend beyond the boundaries of GAAP. Finally, amounts may be reported properly as operating cash flow but do not have the sustainable qualities normally expected of operating cash flow. Clearly the adjective “creative” is used here in a pejorative sense. This post provides some overview [with examples] of how cash flow reported in a creative manner misrepresents sustainable cash flow.

The Motivation Behind Creative Cash Flow Reporting

Managers are well aware of the importance placed by analysts, investors, and creditors on operating cash flow. Cash flow is the life-blood of any organization. A boost in operating cash flow, even as total cash flow remains unchanged, communicates enhanced financial performance. Consider, for example, the hypothetical cash flow statements presented in below figure:

                                                                            Statement 1      Statement 2

Cash provided (used) by operating activities = $(14,000)   $ 44,000

Cash (used) by investing activities = (36,000)                       (66,000)

Cash provided by financing activities = 60,000                     32,000

Increase in cash = $ 10,000                                                      $ 10,000