Which statement concerning net income versus cash flow is most correct?

• A. Net income can be converted into a rough measure of cash flow by adding non cash expenses, typically depreciation.
• B. Net income and cash flow are always identical.
• C. Net income is unaffected by depreciation.
• D. Net income is always greater than cash flow.

Answer: (A)

Net income is calculated on an accrual basis and includes noncash expenses like depreciation, which reduce reported earnings without using cash. Because cash flow measures the actual cash moving in and out, adding back these noncash charges gives a closer sense of the cash generated by operations. Depreciation is the typical adjustment used, making net income plus depreciation a convenient rough proxy for cash flow.

This approach is a handy first look, but it’s not perfect—other noncash items and changes in working capital (like movements in receivables, inventories, and payables) also affect cash flow, so the result isn’t a precise measure.

Net income and cash flow aren’t always identical, depreciation does affect net income (it lowers it), and net income isn’t always greater than cash flow—depending on working capital changes and other adjustments, cash flow can be higher or lower.