Cash flow versus profit

Two questions, two numbers

Owners sometimes say: "My accountant says I made a profit, but I have no money." Both statements can be true at the same time, because they answer different questions.

• Profit asks: over this period, did I earn more than it cost me to earn it?
• Cash flow asks: over this period, did more money come into my bank than go out?

Profit is about the health of the business over time. Cash flow is about survival from week to week. A business can survive years of low profit if cash holds up, but it can fail in a month of good profit if the cash runs out before the bills are paid.

The gap between the two comes from timing. Profit counts a sale when you earn it. Cash counts it when the money arrives. Profit counts a cost when you incur it. Cash counts it when you pay. The longer the delay between earning and being paid, the bigger the gap.

Profit in plain words

Profit is revenue minus costs, counted when the work is done and the cost is incurred. This is called accrual accounting, and it is how most businesses, and almost every accountant, report results.

Suppose you finish a RM 5,000.00 job in March and send the invoice. March's revenue includes that RM 5,000.00, even if the customer pays you in May. The reasoning is that you did the work in March, so March should get the credit. Likewise, if you receive a RM 1,200.00 electricity bill in March and pay it in April, the cost belongs to March.

This is a fairer picture of how the business performed. Imagine a landscaper who works all of December but whose customers pay in January. A report counting only cash would say December was terrible and January was brilliant. The profit view shows the work in December, when it happened.

For a deeper look at the profit report itself, see our guide on how to read a profit and loss.

Cash in plain words

Cash is the real money in your bank account and wallet. It does not care why money arrived. A bank loan, a customer deposit, a sale from last month and the owner's own top-up all look the same to the bank balance.

Cash is also what pays the bills. Your landlord, staff and suppliers do not accept "profit". They want ringgit, on the due date.

That is why careful owners watch three cash numbers each week.

1. The bank balance today. What you can actually spend.
2. Money coming in soon. Unpaid invoices and when they are due.
3. Money going out soon. Bills, rent, wages and loan repayments in the next few weeks.

RM 14,000.00 plus RM 9,000.00 is RM 23,000.00. Take away RM 11,500.00 and RM 11,500.00 is left. This is a short forecast, not a prediction. It does not need to be perfect. It only needs to warn you early if the balance might go below zero.

The same month, two different answers

Here is how one month can show profit and negative cash at the same time. A small design studio had a good month in sales, but its customers had not paid by month end.

The studio earned a profit of RM 8,000.00, but its bank balance fell by RM 4,000.00. Where did the difference go? Customers still owe RM 12,000.00, which is RM 20,000.00 invoiced minus RM 8,000.00 paid. The profit is real, but it is sitting in other people's hands.

The bridge between the two: profit of RM 8,000.00, minus RM 12,000.00 of new unpaid invoices, equals negative RM 4,000.00 of cash.

If the studio now has rent and wages due, it may have to borrow or delay payments, even though the business is healthy. The numbers did not lie. They just answered two different questions.

Why profit and cash drift apart

Besides unpaid invoices, several everyday events move cash without moving profit, or the other way round. This table shows the most common ones.

Three of these catch owners out most often. Loan repayments are not an expense, so profit looks fine while cash drains. Equipment is bought once but used for years, so accountants spread its cost over its life, which is why it does not hit profit all at once. Drawings reduce your cash but not the business's profit. Keep them recorded separately so you can see what the business earned and what you took.

One more cause worth naming is stock. If you buy RM 8,000.00 of goods to sell next month, your cash falls today, but the cost reaches profit only when the goods are sold.

How to improve cash flow without changing profit

Good news: most cash problems are timing problems, and timing can be managed.

Get paid faster

• Send the invoice the day the work is done, not at month end.
• Take a deposit before starting, and use staged payments for big jobs, such as 50% at the start and 50% on delivery.
• Make paying easy. A pay link on the invoice beats a bank transfer that needs account details.
• Send polite reminders before and after the due date.

Pay smarter

• Know each bill's due date and pay on that date, not early and not late.
• Negotiate longer payment terms with big suppliers when you can.

Plan ahead

• Keep a small cash buffer, even if it is only a few weeks of fixed costs.
• Look ahead 30 days every week, using the simple look ahead shown earlier.

None of these tactics reduce your profit. They simply move the money so it arrives before the bills do.

Common mistakes

• Spending the bank balance as if it were profit. The balance includes money you owe to suppliers and tax you have collected for others.
• Celebrating revenue without watching collections. A sale is only useful once the money arrives.
• Forgetting the big lumpy payments. Insurance, annual licences and tax come all at once. Put them on your 30-day look ahead.
• Treating loans as income. A loan lifts cash but must be repaid, so it says nothing about how well the business is doing.
• Taking drawings based on profit alone. Check the cash first.
• Ignoring late payers. The longer an invoice is overdue, the harder it is to collect. Chase early and kindly.

How Faas does this for you

Faas keeps profit and cash side by side so you can see both without doing any maths.

• Home shows money in, money out and profit, plus a this-month outlook that helps you spot trouble early.
• Who owes me lists unpaid invoices and which ones are late, so you know what cash is on its way.
• Reminders go out for you. Faas sends polite messages before the due date, on the day and when an invoice is late, and stops the moment the customer pays.
• The pay link makes paying simple. Customers pay by FPX, card or e-wallet, and the invoice updates itself, so you do not wait for a bank transfer.
• Payment terms let you ask for a deposit and balance without doing the sums.

See how it works on the invoices and payment terms page, and the reports page for the money picture.