Question

A large decrease in a company's cash relative to other assets will result in a decrease in the company's profitability.

True

False

Answer 1

The answer is false.

A large decrease in a company's cash relative to other assets may not result in a decrease in the company's profitability.

Cash flow and profitability are two different concepts. Cash flow is inflow and outflow of cash while the profits are the net income after paying all the expenses. A firm may be earning enough profits and still have inadequate cash and may not be earning profits but have huge cash.

There can be many scenarios where there may be decrease in company's cash and still not hampering the profits. For example- A firm used all its cash balance for purchasing a new asset, this will have no impact on the profitability even the profits can increase if the new asset increases the production level or reduces the per unit cost.

Hope it helps!