What it means
Take the cash flow statement and add the operating and investing sections together, stopping before the financing section, and you have this measure. It captures everything the business does with customers, suppliers, staff and assets, while excluding every transaction with lenders and shareholders.
The reason for cutting the statement at that point is to separate business performance from funding decisions. Two identical companies can report very different closing cash positions purely because one borrowed and the other did not, and this measure strips that difference out.
Lenders find it particularly useful because it is close to the pool of cash available to service debt. A business with consistently positive cash flow before financing can meet interest and repayments from its own operations, while one that is persistently negative is depending on new funding to stay in place.
The figure is closely related to free cash flow, and in many presentations they are effectively the same thing. Slight differences arise over whether acquisitions and disposals of investments are included and whether interest paid sits in the operating or financing section, so it is worth checking what a particular company has included.
A negative result is not automatically bad. A profitable business investing heavily in a new site will show a negative figure while it builds, and the right question is whether the investment is deliberate and funded, rather than whether the sign is positive or negative.
In practice
Real-world examples.
Example
A regional bakery chain reports cash flow before financing of negative $2.1 million in a year it opened six new sites. Its lender is comfortable because the operating line alone was positive $3.4 million and the shortfall came entirely from planned expansion.
Example
A private equity buyer screening acquisition targets ranks candidates on three year average cash flow before financing rather than reported profit. One target with strong profits falls down the list once persistent stock build up is visible in the figure.
Example
A manufacturing group compares two divisions with similar profits and finds one produces $1.8 million before financing while the other produces $200,000. The difference traces to slower customer collections and heavier machinery replacement in the second division.
Think of it
“Cash flow before financing shows what operations and investments produce before debt and equity moves.
Formula
Calculation
Cash flow before financing = net cash from operating activities + net cash from investing activities
A specialist recycling company reports net cash from operating activities of $6,400,000 for the year. Its investing activities used $4,900,000, consisting of $5,200,000 spent on new sorting equipment and a depot extension, less $300,000 received from selling surplus land.
Cash flow before financing = $6,400,000 - $4,900,000 = $1,500,000.
The company then repaid $900,000 of loan principal and paid $400,000 of dividends, giving financing outflows of $1,300,000. Cash flow after financing is therefore $1,500,000 - $1,300,000 = $200,000, so the bank balance rose by $200,000 over the year. Because the pre financing figure of $1,500,000 exceeded the $1,300,000 of funding commitments, the business funded its investment, its debt and its dividend entirely from its own activities.Case study
Seen in the real world.
The following is an illustrative and entirely fictional example. Rowan Valley Nurseries, an invented horticultural supplier, was preparing to refinance a $6 million term loan and expected a straightforward renewal given five years of steady reported profits.
The bank's credit team looked at cash flow before financing rather than profit. Across those five years it averaged just $180,000 a year, because rising stock levels absorbed cash and the business had replaced its glasshouse heating systems in two separate phases. Profit had averaged $1.4 million over the same period, and the gap was almost entirely working capital.
In this fictional scenario the refinancing went ahead but at a higher margin and with a new covenant requiring cash flow before financing of at least $900,000 a year. Rowan Valley responded by tightening its stock planning, and within eighteen months the figure had risen to $1.2 million, which allowed a renegotiation of the margin at the next review.
Watch out
Common mistakes.
- Confusing this measure with operating cash flow, which stops before investing activities and therefore ignores what the business spends on assets.
- Reading a negative figure as a warning sign without checking whether it was caused by deliberate, funded expansion.
- Comparing the measure between companies without checking where each has classified interest paid, since treatment varies between reporting frameworks.
Questions
People also ask.
Is cash flow before financing the same as free cash flow?
They are very close and often identical, with differences arising over the treatment of acquisitions, investment purchases and interest.
Why do lenders prefer this figure to profit?
Because it reflects the cash genuinely available to service debt after the business has paid for the assets it needs to keep operating.
How does it relate to cash flow after financing?
Adding the financing section, which covers borrowing, repayments, share issues and dividends, converts one into the other.
From the founder's library
Take it further with the book.
Build your financial confidence beyond this definition. Shihan's full-length guide, Accounting Fundamentals, takes the same plain-English approach and turns it into a complete, practical playbook for non-finance managers, business owners and students - with chapter-end quiz answers and presentation slides included.
25% off with code MMHQ25, applied at checkout. Priced in USD - checkout may show the equivalent in your local currency.
View the book and save 25%