Cash Flow vs. Profit: Where should your eye be focused?

January 29, 2019

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Video Transcript:

Hi, I’m Donna Bordeaux with Calculated Moves. I am often asked why a bank balance does not equal the profit in the business after the month is done. Let’s take a moment to go through a little bit of how cash flow works and why it’s different than profit. So, this is a chart that we utilize in one of our tools that gives feedback to our clients on how things are going in a more graphical way. This indicates that revenue for this particular month was around $40,000. This business had a cost of sales reduction. So this was probably due to a return or something small. Wherever you see red is spending of money, not the inflow of cash. They spent about $18,000. Those are all things like the normal expenditures in day to day business — rent, payroll, keeping the lights on, and those kinds of things.

That is typically where people think the profit part stops, but it’s not the only thing that affects your cash flow. That’s where business owners get really confused. Things like paying taxes or setting aside money for taxes also affect cash flow. In this case, they had an increase in their accounts payable, so they owe more money to vendors and they didn’t spend the cash.  They just accrued the liability in another current liability. This change, the negative $11000 looks like they paid down something, so maybe they paid off or paid down a credit card or debt or maybe made loan payments. In this case, they also had a change in inventory, so they stocked up on some inventory before the end of the year. That resulted in their physical count showing that they spent another $3,300 on inventory.

That netted a cash flow effect on free cash of $18,991 in this example. If you buy things like fixed assets, have some closing costs on loan, or make some investments, it is also going to affect your cash flow but not to your net profit.  There also maybe have some interest in this case.

The change in retained earnings or other equity would be distributions that the owner took out of the business. They took the cash flow because they had to spend it on their personal bills. This is a big one that affects cashflow.  So many owners overlook when they take the money out of the business in ways other than the traditional expenses like payroll.  They are reducing the cashflow that’s available. Be careful that you still have money left over to cover the taxes and pay all the other expenditures in the business the following month.

Let’s look at “free cashflow”. The business generated almost $19,000 in cash. The owner took out $2,340 in distributions. So the net cash flow was $16,652. If we were looking at the bank statement in this situation, we would see that the bank balance from the prior month should have $16,652 more in it at the end of the month than at the beginning. This happened to be a good month in December for this retailer, so they were able to add a good bit of cash back into their balance. This is something you want to watch over if you are concerned about cash flow. We offer solutions we can help you with and a can implement strategies to make sure that cash flow is not an ongoing issue for your business.

Donna Bordeaux, CPA with Calculated Moves

Creativity and CPAs don’t generally go together.  Most people think of CPAs as nerdy accountants who can’t talk with people.  Well, it’s time to break that stereotype.  Lively, friendly, and knowledgeable can be a part of your relationship with your CPA as demonstrated by Donna and Chad Bordeaux.  They have over 50 years of combined experience as entrepreneurial CPAs.  They’ve owned businesses and helped business owners exceed their wildest dreams.   They have been able to help businesses earn many times more profit than the average business in the same industry and are passionate about helping industries that help families build great memories.