Cash Flow Tips – Profit does not equal cash – Have Profit but no Cash left? Where is the money? (2024)

Do you find you are making a profit but no cash is left and you wonder where is the money?

This is often because the company reports, like Profit & Loss, may show you are making a profit but you have no cash because profit is an accounting record using revenues and expenses, (accrual accounting) which are different from the company's cash receipts and cash disbursem*nts (cash accounting).

Put another way, there is a difference between:

• Revenues (invoiced sales) and receipts (actual cash receipt of payment of invoices (banked);

and difference between:

• Expenses (purchase orders still to pay) and expenditures (actual payment of purchases and overhead expenses).

Examples

1. As an example a new company that sells $10,000 to its clients in a month and the clients are given 30 days to pay. The company will have $10,000 of revenues in its first month, but the cash will not be received until the second month. If the company's expenses are $7,000 in the first month, the company will report a profit of $3,000 but will not have received any cash from its clients. It may not have been paid, and it may not have paid it’s expenses either.
2. Another company might report a profit of $60,000 in its first year, but during its first year it uses $65,000 of cash to acquire equipment that will be put into service at the beginning of the second year. This company will have a profit, but will not have the cash.
3. Other times cash is paid out, but the profits are not reduced at the time of the payment, because they don’t pay for expenses but pay loans, payroll PAYG or super or for stock – they go to the Balance Sheet and include prepayments of insurance, payments to increase the inventory of merchandise on hand, and payments to reduce liabilities.

Profit is the accounting record of what is left after you have made sales and raised all expenses. Of course, remember there is tax on the profit as well. The remaining amount is then reinvested back into the business or distributed the owners.

Cash is what the business needs to operate every day and can come from 5 different main sources — profit, selling assets, contributing your own personal funds, bank loans or new investor money.

Cash and Timing

The key to remember is that you don’t spend profit in our business - you spend cash, and it is all in the timing.

There are 2 timing situations to be aware of –

Firstly as the old saying goes, you have to spend money to make money. To make a profit, you first need to purchase goods or services to sell, so you will need cash before the sale is made. By selling your product or service at a higher price than what it cost, you make a profit. The point is you need the cash before you get the profit, or get credit and pay the supplier later!

Secondly (that catches most businesses) is providing credit to customers. The longer the customer takes to pay, the longer you have to wait for the cash, and in the meantime you have wages, rent, stock and other expenses to pay. This is where the trouble begins and often ends.

Focus on what matters - cashflow

You need to focus on not only profit but also what drives your cashflow. If you have regular loan repayments, rent and other expenses that have to be made on time, then you will need enough cash to cover these while you wait for your customers to pay. Keeping track of your accounts receivable and following up on late payments will definitely help your cashflow. The other thing to remember is if you can get credit from your suppliers, this may mean that you don’t have to pay for stock until you have sold it — again making a big difference to your cash flow.

The business needs to be profitable to stay in business. Be careful of sacrificing profits to generate cash. Offering discounts to pay early will definitely help your cash position but will reduce your profit.

The best management is to make sure you have enough cash buffer to cover ongoing expenses. Having a finance facility (savings, overdraft, credit card) can help, that will tide you over during a cash flow shortage, but this will cost in the form of fees and interest, which again, will reduce your profit.

Remember profit does not equal cash!

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