Cash Is an Asset: Everything Else A Liability

When I was a young CPA one of my senior partner mentors used to have a favorite saying when talking about analyzing financial statements. It was “Cash Is an Asset: Everything Else Is a Liability”. He obviously new the difference from an accounting perspective. His intent was to emphasize that business value creation is all about maximizing cash flow. Things that get in the way of that (consume cash) can detract from value creation.
You cannot make debt service payments or buy equipment with accounts receivable, inventories or prepaid expenses. These assets consume cash and capital (which always has a cost) and have risks associated with them that cash does not. When a good financial analyst reviews financial statements of a business they immediately go from the Income Statement to the Statement of Cash Flows. That statement has the following three main sections:

Cash Flow from Operating Activities:
This section shows how much of the income reflected on the income statement was really in the form of cash inflow, sometimes referred to as free cash flow. A business that shows profits that are continually being consumed by growth in working capital items other than cash detracts from business value and indicates issues in the cash conversion cycle that need to be addressed.

Cash Flow from Investing Activities:
This section shows the investments in capital assets the business has made. The cash for these investments has to come from cash flow from operations, financing sources or the liquidation of other assets for cash.

Cash Flow from Financing Activities;
This section shows the change in how the business is financed, both debt and equity financing.

The Statement of Cash Flows starts with net income and then reconciles it to changes in the balance sheet and ultimately changes in cash. It addresses the question of where the profits from the business ended up and whether they were put to productive uses or not.
If you find yourself asking the question “If I made so much money last year why do I feel so poor?” a proper cash flow analysis will answer that question.