What is the primary purpose of conducting a cash flow analysis?

The primary purpose of conducting a cash flow analysis is to assess an entity's capacity to generate cash and meet its financial obligations. This analysis provides insights into the actual liquidity of a business, distinguishing it from profit measurements which can include non-cash items. By evaluating cash inflows and outflows, stakeholders can understand how well the entity can cover its operating expenses, repay debts, and fund future investments.

Cash flow analysis is particularly crucial for investors, creditors, and management, as it reveals the timing and sustainability of cash flows. This empowers decision-makers with the information necessary to ensure that the company maintains sufficient liquidity to support ongoing operations and growth strategies. The focus on cash generation capacity highlights its significance over merely assessing profit margins or metrics related to inventory or equity, which don't provide a complete picture of financial health in terms of liquidity.