Is Cash really the king?

Traditional finance textbooks talks about the supremacy of cash flow based accounting. Cash flow based accounting considers time value of money, it considers the quality of cash flow and it is supposed to be less vague a concept. There are a number of allegations often raised against accrual based accounting; at times regulators did not allow to depict the business reality; at times while preparing the book of accounts one needs to make too many estimations. So, even though people can associate firm’s earnings with its value appropriately; even though analyst’s are evaluated based on their EPS forecasts, still cash flow related concepts – OCF, FCF or FCFE are far more popular among investor community. But is cash really the king? No, as cash flows can also be managed, very much like earnings.

Call you recall Enron and their SPE (special-purpose entities)? Through setting up SPEs that firm had long been successful in hiding its true cash levels and its huge exposure in toxic assets. After the emergence of factoring and reverse factoring concept, receivables can quickly be converted into cash. But factoring market runs of recourse concept; so bad debts would eventually jeopardize your position. One can go with real earnings management and through cutting one’s discretionary budgets (like allocations in advertisement or in research and development) firms can actually boast up cash flows for a limited time frame. But holding off the discretionary expenditures will prove out to be very harmful in the longer term. Finally by changing the terms of sales, firms can hypothetically enhance its cash flow level; but this will also come at huge cost. So, cash is not something that cannot be managed; which cannot be distorted. Yes, quite obviously cash is less prone to manipulation, it is verifiable but still it can ve distorted and managed.