Let’s talk about money.

You want your business to make money…a lot would be good.  And, you want to be able to keep as much as you can.

What we’re talking about is cash management and cash flow. Are you actually making money (a profit), not just recording sales?

Most businesses are good at tracking income.  Each sale is recorded in a book, on a spreadsheet, or as part of the cash register ticket.  In reality, that total is not profit.  That figure represents revenue — money coming in.  In order to figure profit, you must subtract the money that is going out from the money that coming in.

Income minus costs equals profit.

Your business has two types of costs — fixed expenses and variable expenses.

Fixed expenses are those costs that remain constant month by month and don’t change based on your level of work — whether you do a lot or none at all.  Fixed costs include items like rent or mortgage, depreciation, licenses, interest payments, and some taxes.

Variable expenses depend on your production level — how much work you are doing and the materials, supplies, and direct labor needed to produce the work.  Variable expenses are present whether you are in manufacturing, retail, or professional services.

An important figure to know in operating your business is the breakeven point.  How much revenue do you need to cover your fixed and variable expenses?  That number is your breakeven.  Any sales above that point is profit — money in your pocket, so to speak.  That’s when you know it is possible to make money.  However, one other thing has to happen before you know you are making money.

So, let’s return to our conversation about income and focus on cash flow.  Cash comes from revenue, but it is not the same thing.  Cash is when you actually get paid, not when you make the product or perform the service.  You don’t have the money until your customer pays you.  Therefore, knowing your cash flow means you know when you receive money and when you pay money.

The cash flow statement is known as the statement of cash flows and is one of the main financial statements, along with the balance sheet, income statement, and statement of stockholders’ equity.  The cash flow statement reports the cash generated and used during a specific period (such as a quarter or a fiscal year).

The other financial statements contain the cash information but just not so directly as the cash flow statement.  Because the income statement is prepared using the accrual basis of accounting (not the cash basis), the revenues reported may not have been collected.  Similarly, the expenses reported on the income statement might not have been paid.  You could review the balance sheet changes to determine those facts, but the cash flow statement already has integrated all that information.

You can see how important it is for you or your accounting professionals to prepare a statement of cash flows along with the other financial statements.

As a savvy business person, you can use the cash flow statement in various ways.  Here are two of the most obvious:

  • Compare the cash from operating activities to the company’s net income.  If the cash from operating activities is consistently greater than the net income, the company’s net income or earnings are said to be of a “high quality.”  If the cash from operating activities is less than net income, a red flag goes up as to why the reported net income is not turning into cash.
  • The cash flow statement identifies the cash that is flowing in and out of the company.  If a company is consistently generating more cash than it is using, the company is increasing the owners’ equity or the stockholders’ value.

When your cash flow position is strong, you are happy to hear the question:  “Are you making any money?”

Because the answer is YES.

Arnelle Adcock is one of the two tall women who owns Clover Management Group in Brentwood. Contact her at [email protected].