The Relationship between profit and cash – “Profit doesn’t equal cash and why you need both”

If I had a dollar for each time I’ve heard the following statement when reviewing profit numbers at month/quarter/year end meetings I’d be a rich man. “Is that how much profit the business made this period? So why don’t I have any cash in my account?

I cannot begin to tell you how much success we have had using KPI dashboard management in conjunction with our clients goals in measuring some of the key metrics associated with improved cash flow and the flow on effect to business growth. I’ve included some examples below and the answer usually lies in one or more of the following areas;

Accounts Receivable/Debtors have increased – I.E. You’re being a bank for your customers

Are you selling to customers who pay their bills on time? Do you have a close enough relationship with your customers to talk with them about payment terms? If you’re in customer service, are you offering the kind of service that will encourage them to pay on time. Are your products free of defects, are your invoices easy to read and offer quick pain free payment facilities? Is your customer service or front of house easy to deal with and can easily answer questions? Are invoices sent on a timely basis? All of these factors are drivers of your customer experience. A customer who is disgruntled is not likely to pay their invoice on time and will look for any factor to delay payment. Make the customer experience seamless and friction free and watch your debtors decline and get those sales converted into cash sooner.
 
Growth IQ KPI Dashboard extract – What gets measured gets managed. As debtor days reduces watch cash in the bank increase. 
Inventory or Stock on hand has increased – What are you preparing for?
In some circumstances, seasonal trading conditions will have an effect on stock required. Nothing worse than a stock-out situation that means you can fill orders and lose sales. However, if your ordering procedures are floored you could be in a situation where excess stock is just sitting on the shelves, not being converted to cash in the bank and removing the opportunity to be invested into something else. (Investment in business growth for instance).

Owner Drawings
How much cash are you pulling out of your business for personal use? Director Loan – 2016, Director Loan – 2017, Director Loan – 2018, Director Loan – 2019 That’s where your cash is. That’s where the majority of cash is hiding for small business owners. It’s a result of Directors using their company bank account as a slush fund. To pay mortgages, range rovers and holidays. The only cash you should be taking from your business is via your salary. That’s it. Nothing else. Remember, as a Director, you are an employee – just like everyone else in your business. If you want to pay dividends as a shareholder/owner – ask your accountant if you’re allowed to first.

Free Cash flow as a measure of performance and a determinant of GROWTH

We gravitate toward this metric as a measure of financial performance as its not subject to assumptions or estimates. It simply is calculated as operating cash flow less CAPEX. Free cash flow gives a business freedom and flexibility rather than being constrained to whether they can obtain capital from external sources. Hands up who’s tried to obtain finance from a bank recently…not ideal. Some opportunities free cash flow gives a business are as follows; expansion of operations, make acquisitions, pay off debt, pay dividends to shareholders, expand brand awareness and sales through advertising investment. The list goes on.

Forecasting your businesses cash balance into future periods gives you a 360 degree view of your business and aids well informed decisions about the allocation of excess cash.

*If you want to know more about setting your business up with KPI dashboards specific to your goals and business needs please contact us for a complimentary appraisal.

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