Kutchins, Robbins & Diamond, Ltd. Certified Public Accountants and Advisors

“If I Made a Profit, Where is My Cash?”

This has to be the number one question we hear from our clients.  

Sometimes, this is the only question we get asked when we hand over a beautifully bound set of financial statements representing hours, if not days of painstaking work.  As accountants, most of us feel very fortunate if our client reads past the bottom line on the Income Statement. For many harried business owners, once they see that Net Income or Loss (the bottom line), they have all the information they need. They are ready to start taking action, even if it means doing the wrong thing.

But How Do We Answer This Question?

It is easier than you might think. We simply direct their attention to one of the most valuable of the three standard financial statements – the Statement of Cash Flows. This statement is designed to answer that exact question.

Cash for a business is generated from one of three sources:

  1. Operating activities – the normal transactions that occur in the process of selling goods and services
  2. Investing activities – commonly involves buying or selling capital assets of the business
  3. Financing activities – generally borrowing funds or receiving equity investments

The Statement of Cash Flows starts with Net Income from the Income Statement (or P&L, or Statement of Profit and Loss as it is sometimes called.)  It then adds or subtracts changes to operating assets and liabilities to arrive at Operating Cash Flow.

So Where Might We Find the Missing Cash?

For many businesses, the hidden cash is tied up in one of three asset investments, as reflected on their balance sheet:

  • Customer Accounts Receivable (AR)
  • Inventory
  • Fixed Assets or capital investments

As any of these assets grow from period to period, they reduce available cash for the business. The first two have a direct impact on operating cash flow, while fixed asset purchases impact investing cash flow.

For other businesses, the missing cash might be slipping out the door in the form of early payments to vendors and suppliers, as reflected by a declining accounts payable (AP) balance from one period to another. As these businesses pay down short and long term obligations, they are obviously removing cash from the business.  The cash impact can be worse if vendors and suppliers (AP) are paid faster on average than customers (AR) typically pay.  Compare AR and AP ratios to determine if this is the case.

Review Your Cash Flow Statement

Start with a review of your Statement of Cash Flows each period to determine what profit you generated for the period and how much of that profit you were able to convert to cash.  Consider operating cash flow a measure of your ability to manage both profit and critical balance sheet assets and liabilities. 

Then take a look at your investing activities for the period. For asset-based businesses, a lack of investment over an extended period can reduce your ability to succeed over the long term while continued large asset investments can put a drain on company resources.

Finally consider your financing activities, your debt obligations and repayment requirements.  Seek to align long term debts with long term assets if at all possible.

KRD Can Help

If cash flow is your focus, we can set up an individual session that calculates different ratios, identifies the drivers of cash flow in your business, and shows you how to work towards your cash flow goal.

Contact Lauren Clawson at lclawson@krdcpas.com for more information.

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