Period-to-period cash flow ratio contrasts
Let’s say two companies, SlowCo and ChaosCo, have the same operating cash flow and current liabilities as your business in the example above. For year one, all three companies have a 0.33 CFR. However, at the end of the following year, your company’s new CFR is 0.55, SlowCo’s is 1.13 and ChaosCo’s is negative 0.27.
In order for ChaosCo’s CFR to drop to a negative number, their operating cash flow must be insufficient to pay their current liabilities. The company should spend a considerable amount of time investigating the causes, which might include lower profits, increased accounts receivable or inventory balances, or increased liabilities. A period-to-period contrast is a good starting point that indicates there may be a problem, but it’s going to take a bit of work to see how to get the company back on track.
With period-to-period trends, you compare one measure within the same company over multiple periods. Your company’s CFR improved, from 0.33 to 0.55, which, absent other information, does not raise any flags and is a positive sign. SlowCo’s CFR improved by a healthy amount, while ChaosCo’s situation appears to have declined at an alarming rate. You’d want to dig further into what caused these significant changes from one year to the next.