Do you get frustrated when you see your monthly or quarterly P&L reports?
You show a profit but your bank balance says differently.
Are you scrambling to make payroll every week or every two weeks?
Do you have to stretch out paying your vendors longer than the terms they give you?
How can it be that the business is making a profit, but you have no cash?
Many business owners have a misconception that profits and cash flow are the same thing. They are not.
Profit is the result of revenues (sales) minus expenses
Cash flow is money going in and out of your business. Positive cash flow is more cash is coming in than going out. Negative cash flow means your business needs to spend more than it has coming in. Many times not having money coming in has more to do with collecting than selling.
For a business to succeed, it must generate profits but also operate with positive cash flow. For a business to be viable, cash flow is king.
A study by U.S. Bank found that82% of the time, poor cash flow is the reason small businesses fail.
So having a high profit is great. But low cash flow results in a profitable business unable to pay its bills.
There is a solution. Let’s look at a couple of areas of your business where you may be able to find a solution.
Your Accounts Receivables
To find where there is a disconnect between your sales and your cash flow, the first thing to look at are your receivables.
Are your accounts receivables higher than your accounts payable? If so, that is a positive.
Do you offer terms with your receivables that are longer than the terms your vendors give you to pay your payables? If so, that is a problem.
Do you offer an incentive to your customers, like a discount, if they pay in 10 days rather than 30 to 60 days?
Do your vendors offer you a discount if you pay in 10 days instead of the normal 30 to 60 day terms?
What percentage of your receivables are over 90 days?
What percentage of your receivables do you ultimately have to write off?
What kind of due diligence do you do when you extend credit to a customer?
Giving a customer terms to pay your invoice is no different than your bank giving you a short term loan. Consider the following:
Do you have the owner of the business personally guaranty your receivable?
Do you charge a late charge or interest on the past due balance beyond your terms?
Is your receivable unsecured or is there underlying collateral that you can file a UCC financing statement on as a secured party until your receivable is paid in full?
To remedy cash flow issues, you need to get control of your receivables and ensure you have money coming in on time from your customers.
Your Lending Relationship
Do you have a Line of Credit at your bank? If so, is it adequate to finance the amounts of sales and receivables you generate each month? If not, it is time to sit down and renegotiate your Line of Credit.
If you have no Line of Credit to finance your receivables, then the first priority is to make an appointment with a lender to explore the options to meet your needs.
That leads to the question, “Is your financial reporting up to date and in order?”
When seeking a Line of Credit, you need to be prepared before you approach any lender. They want to see up-to-date tax returns on the company, internal balance sheet and income statements since your last tax return.
Do you have enough collateral to support your request for the amount you are looking for?
How is the owner’s personal credit?
Lenders are mainly concerned with your ability to pay them back. Your lender should be looked at as one of your most valuable strategic partners in your business. Without them, it could mean the difference of growing or staying stagnant. It could also mean the difference between staying in business and going out of business.
Your employees are probably your company’s most valuable asset. Without them, you will not survive. In order to retain them, they need to be paid timely and provided incentives to stay working for you.
Unless you are a one-person business, this should be your first concern.
If cash flow is tight, how long can you pay your employees and not take a paycheck yourself?
As the owner, if you loan the company money personally, how long before you run out of money?
Poor cash flow can cause you to make bad personnel decisions. You may hesitate to hire needed resources causing customer service issues. Or you may keep a bad employee because you don’t want to go through the expense of a new hire.
Remember This
Profits do not keep a company in business. Cash flow does.
Your business will not survive if you cannot manage your company’s cash. Small-to-medium businesses are at highest risk due to constantly re-investing profits back into the business either in marketing or inventory.
If your business is having cash flow issues, you may need help. Achieving positive cash flow for your business may take a more comprehensive assessment of your company’s financial health.
George Jensen
For over 25 years, George has been helping business owners and real estate investors find and obtain business loans and commercial mortgages. George has owned several businesses, bought and sold investment real estate, and was a part-time CFO for startups and growing small and medium sized businesses.
For many businesses, the biggest differences between profits and cash are caused by timing differences. That is, the sale (or expense) was earned (or incurred) during the report period so it is on the P&L, but you haven't collected (or paid) it yet so there's no impact on cash.
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).
Even a profitable business can run out of cash if it does not effectively manage its cash flow. Profitability, as measured by net income on an income statement, is not the same as cash flow, which is the inflow and outflow of cash in a business.
A company keeping its books on the accrual basis may have recognized sales, but have a high level of receivables. So, there would be profit because the sales were booked, but no cash because it has not yet been collected.
"Profit rich, yet cash poor" refers to a successful business that has cashflow issues. A business that does a lot of work on credit may have very high profits, but if it has a hard time collecting its accounts, it may find itself out of cash to pay its expenses.
Non-cash incomes are the sources of cash that do not involve any cash inflow or outflow. They are typical gains, revenues, unrealized appreciation on Fixed Assets, etc., Which arise due to an accounting transaction and do not need any actual flow of funds.
Prioritize essential expenses and cut back on non-essential costs. Explore alternative funding options, such as loans, grants, or seeking investors. Negotiate with suppliers and customers for extended payment terms. Focus on boosting sales and marketing efforts to increase revenue.
If you don't have any other options left, explore selling your business to a competitor, investor, or fellow entrepreneur. Selling a business is a complicated process that will take time, so keep in mind that you still may need to keep your business moving for months after getting serious interest in a sale.
If the company does have debts, including Bounce Back Loans, but no assets then there is another route that can be used. This process clears any debts and allows for the company to be closed, this is called Administrative Dissolution. It has the same effect as a liquidation but usually costs far less.
The maxim goes, “when you are out of cash, you're out of business.” Without cash (including demand deposits and liquid assets such as money market accounts), you can't pay employees, you can't pay suppliers, and you can't pay debts as they come due in the normal course of business.
You can make a net profit and have negative cash flow. For example, your bills might be due before a customer pays an invoice. When that happens, you don't have cash on hand to cover expenses. You can't reinvest cash into your business when you have negative cash flow.
You invoice the client once the work is done. This is recorded as income in your profit & loss statement at invoice date. If the client has not yet paid the invoice, no amounts would be showing in the cash flow statement. Sometimes businesses ask for a deposit from their clients before starting work for them.
In other words, a company can appear profitable “on paper” but not have enough actual cash to replenish its inventory or pay its immediate operating expenses such as lease and utilities. If a company cannot purchase new inventory, it will slowly become unable to generate new sales.
They spend less than they earn. They save their money and make their savings grow. They manage their finances carefully. They seize investment or business opportunities when they arise.
“House poor” refers to the situation where a homeowner buys a home beyond their means, and their new home becomes more of a financial burden than a positive investment.
To convert your accrual net profit to cash, you must subtract an increase in accounts receivable. The increase represents income that has been recorded but not yet collected in cash. A decrease in accounts receivable has the opposite effect — the decrease represents cash collected, but not included in income.
Understanding the difference between profit vs cash is very important in the finance industry. Profit is defined as revenue less all the expenses of a company in a certain period, while cash flow is cash that flows in and out to/from a business throughout a certain period of time.
Net Income is the result of revenues minus the expenses, taxes, and costs of goods sold (COGS). Operating cash flow is the cash generated from operations, or revenues, less operating expenses. Many investors and analysts prefer using operating cash flow as an indicator of a company's health.
Introduction: My name is Tish Haag, I am a excited, delightful, curious, beautiful, agreeable, enchanting, fancy person who loves writing and wants to share my knowledge and understanding with you.
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