How to Make Sense of Your Company’s Cash Flow

Hey there, business owners! Ever wondered why the money you see on your profit statement isn’t the same as the cash in your bank? Let’s dive into it.

1. The Basics: Accrual Accounting

Most companies, including yours, use something called accrual accounting. It’s like keeping score in a game. Just because you scored doesn’t mean you’ve won the cash prize yet. You record sales when you’ve made them, not when you get the cash. And you note down expenses when they happen, not when you pay them. So, your net profit isn’t the same as your actual cash.

2. The Indirect Method: Making Adjustments

To figure out your real cash situation, you’ve got to tweak that net profit. It’s like adjusting your glasses to see clearly. Here’s the formula:

Net Profit +/- Tweaks = Actual Cash from Business Operations.

3. The Three Main Tweaks:

  • Depreciation: Imagine you’ve got a truck that loses value over time. That loss in value is called depreciation. It affects your profit but doesn’t take cash out of your pocket. So, you add it back.
  • Selling Old Gear: Let’s say you sold some old machinery and made a loss. That loss is taken out when figuring out your cash flow. It’s like returning a faulty product and getting a refund.
  • Checking Current Accounts: This one’s a biggie. It’s about checking all the money that’s yet to come in or go out. Like money customers owe you or bills you’ve yet to pay. You adjust your profit based on these to get the real cash picture.

4. A Few More Tweaks (Bear with Me!):

  • Inventory: If you bought more stock than you sold, you’ve spent cash. So, you need to account for that.
  • Prepaid Expenses: Paid for something in advance? That’s cash out, even if you haven’t used the service yet.
  • Owing Money: If you owe more to suppliers than before, it means you’ve got goods but haven’t paid for them yet. That’s a cash benefit.
  • Income Taxes: If you’ve got a tax bill but haven’t paid it yet, you need to account for that too.

Phew! That was a ride, right? But now you’ve got a clearer picture of your cash situation. Remember, it’s not just about profit on paper; it’s about cash in the bank!

Marek Niedzwiedz, CEO @ aeXea Capital; Turnaround-Shogun™

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