By Josh Patrick
AdviceIQ.
Your profit and loss statement, by accounting rules, tells you whether you make money. That’s only part of the story. If you, as a business owner, don’t pay close enough attention to your cash flow, you might end up going out of business, even though it is profitable.
Take my story as a warning. When I was 27, I had a vending machine business that grew at an exponential rate. Three years in a row, the growth was over 20 percent.
But obtaining new business was costly. I had to buy vending machines, get cash for dollar changers and add inventory and trucks for new customers.
All of these cost real money, yet none of the cost of growth ever showed up on my profit and loss statement. When I bought new vending machines, they went into fixed assets and inventory into inventory. They were not listed as expenses on a traditional profit and loss statement.
If you jump ahead, you know where this is going. I eventually grew myself towards bankruptcy. Fortunately, I learned what measuring cash was before it was too late.
When you go to France, you speak French. Finance is the language of business. You need to learn how to read your financial statements. Please don’t tell me that it’s too hard. If I, a history graduate, could learn it, you can, too.
The three main financial statements are the balance sheet, income (profit and loss) statement and statement of cash flows. The income statement tells you whether your company is making a profit. The balance sheet tells you whether your assets are in line with your liabilities. Bankers like balance sheets. They use balance sheets to determine whether you have enough equity (the value of the business) to get loans.
To garner real information about what happens to your cash, you need something that combines both. Enter the cash flow statement. A statement of changes in cash position combines pertinent information from both your profit and loss statement as well as your balance sheet. It tells you where you spent your cash and what created cash in your company. It even gives you a cash balance at the start of a reporting period and a cash balance at the end.
If you see that the ending cash balance is lower, it might be a red flag. If you see that you spend more money on inventory and equipment than you make, you’re going to have a problem. It is not a good sign, either, if your receivables (the money customers owe you) are high.
Cash is king in your business. In the end, a private company is all about creating cash. It’s all laid out for you to see, and all you have to do is figure out how to read it.
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ABOUT THE WRITER
Josh Patrick is a founding principal of Stage 2 Planning Partners in South Burlington, Vt. He contributes to The New York Times You’re the Boss blog and works with owners of privately held businesses helping them create business and personal value.
He also writes for AdviceIQ, which delivers quality personal finance articles by both financial advisors and AdviceIQ editors.
