Profit v cashflow – what is more important for a modern-day SME?
When your business is only beginning to emerge, it is important to appreciate the relationship between a company’s profit and its cashflow.
A number of new businesses take profit as the sole indicator of success, but cashflow is often just as important.
A business manager must understand that profit does not always necessarily equal cashflow. So, what is the most effective way to distinguish between the two features?
Making the crucial distinction
Profit is generally quite straightforward to measure, provided your business is lucky enough to be generating it that is!
In contrast, capital expenditures, inventory, debt servicing and accounts payable are among the variables which need to be taken into account when measuring overall cashflow.
A fully up-to-date balance sheet is an invaluable tool for any business. It acts as an effective guide to exactly where the business stands in terms of existing finances. Profits can be misleading, but keeping track of your balance sheet will allow you to assess the true financial position of your company.
This could be crucial in the process of controlling the funds which are spent on stock, as well as not committing to contracts that you might struggle to honour because you have failed to grasp the true nature of your financial position.
Taking control of key financial aspects such as these at an early stage could be the difference between steadily moving towards success and having to carry out major restructuring work down the line.
Unlocking the key to profit
Establishing profit at some point is the key to determining whether or not your business model is sustainable. You are likely to have to persevere with breaking even (or even potentially running at a small loss) in the early stages.
However, if this situation doesn’t improve within the first few years then it might be time to revisit your strategy and come at things from an entirely different angle.
By Phil Smith