Cash Flow is the lifeblood of a business and is crucial to the growth and sustainability of the company. So it’s no wonder that Cash Flow Management ranks as one of the most important reasons to maintain an up-to-date and accurate accounting system. At its’ simplest, Cash Flow Management involves collecting money from customers as quickly as possible and delaying payments to vendors as long as possible.
Properly Managing Cash Flow actually begins with managing 3 basic accounting functions:
- Bank Reconciliations (how much cash you have)
- Accounts Receivable (how much cash you have coming in)
- Accounts Payable (how much cash you have going out)
Once you are effectively managing the 3 basic functions of accounting listed above, you can accurately forecast and manage future cash flow. Click here to see how to create a Cash Flow Forecast.
Cash Flow vs. Profit
It is important not to confuse your Profit, also referred to as your “bottom line”, with Cash Flow. Profit and Cash Flow are two entirely different concepts. Profit is a measurement of efficiency. Cash Flow, on the other hand, is cash flowing into and out of your business. A good way to fully understand the differences between Profit and Cash Flow is through an example.
EXAMPLE:
Misty owns a boutique, retail store. She bought an antique lamp for $1,500 and then sold the same lamp for $2,000. Misty has a profit of $500.
What if the buyer of the lamp is slow to pay for the lamp? Let’s say that the customer takes 30 days to pay for the lamp. At the time of the sale, Misty has a profit of $500 but $0 cash from the sale.
As you can see, Profit and Cash Flow are entirely different concepts. The $500 of Profit that Misty had in the above example is a financial measurement of how well she is doing at buying and selling her retail items. Cash Flow, on the other hand, is concerned with the time at which the movement of cash takes place.
Cash Flow is essential to the survival of your business in the short-term. Profit is more meaningful in the longer-term. A business with substantial cash in the bank can survive until it realizes its profit. A business that runs out of cash is in serious danger of going bankrupt.