In "The One-Minute Lender" (December 1984), Bruce Posner muses that some bankers have asked the authors of the H-score how to calculate cash flow. Pretty hard to believe, I agree, but then Mr. Posner defines cash flow incorrectly himself.
Cash flow is a complex calculation which, if properly figured, will include nearly every balance-sheet account, not just the addition to accumulated depreciation.
Cash flow should equal net earnings plus depreciation expense plus or minus such factors as the increase or decrease in accounts receivable, prepaid expenses, inventory, and other current assets; the increase or decrease in fixed assets including asset dispositions; the increase or decrease in accounts payable, short-term debt, accrued expenses, and other current liabilities; the separate increases and decreases in long-term debts; and the changes in stockholders' equity other than net earnings, such as dividends paid.
Cash flow will normally be a much more involved calculation than Mr. Posner states, and users of the H-score formula should determine the appropriate figure before completing the score.
Thank you for the interesting concept of the H-score. I hope it works!
INC. replies: The five factors Mr. Loughrin mentions are clearly important to any detailed financial analysis.
The statistical model on which "The One-Minute Lender" is based, however, calls for a very precise definition of cash flow. According to the accountants who developed the formula, for this purpose cash flow is defined strictly as net earnings plus depreciation. These figures can be found simply by looking at a company's income statement.