Which statement best describes the relation of net income and cash flow?

• A. Net income can be adjusted for noncash expenses to approximate cash flow.
• B. Net income and cash flow are always equal.
• C. Net income is entirely independent of cash flow.
• D. Net income is always lower than total cash flow from all activities.

Answer: (A)

Net income is based on accrual accounting, while cash flow reflects actual cash movements. Noncash expenses, such as depreciation and amortization, reduce net income but do not consume cash in the period. Because of that, you add back these noncash charges to net income to approximate cash flow from operations. Cash flow is also influenced by changes in working capital and by gains or losses from asset sales, which may not align with net income on a dollar-for-dollar basis. So net income and cash flow are not always the same, and adjusting net income for noncash expenses (and other non-cash or non-operating items) provides a better estimate of the actual cash generated. This is why the statement about adjusting net income for noncash expenses to approximate cash flow is the best description of their relation.