I’m amazed at the number of business owners who think the only statement they have to pay attention to is their profit and loss statement. I’m hoping that you’re not one of them.
Your profit and loss statement only tells you part of the story. Yes, it tells you by accounting rules whether you’re making money. It does nothing to tell you what’s really happening to your cash.
A sad story I personally experienced.
When I was 27 years old my business was growing at an exponential rate. We had three years in a row where our growth was over 20%. I was in the vending business, which had high costs of taking new business. We had to buy vending machines, get cash for dollar changers, add inventory and trucks for new business. All of these cost real money.
The sad part was none of the cost of growth ever showed up on our profit and loss statement. When I bought new vending machines it went into fixed assets. Inventory into inventory and cash into cash. All used cash, but none of them were expenses on a traditional profit and loss statement.
If you’ve jumped 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. You don’t want to duplicate my own story. Understand cash is king and will always be king in your business.
What if I look at my balance sheet.
A balance sheet is a good thing to understand. It’ll tell you whether you have enough equity to get loans. It’ll tell you whether your assets are in line with your liabilities. It could help you understand your cash position, but only if you know how to manipulate the numbers to give you that information.
Bankers like balance sheets. They tell your banker what the probability of you being able to repay your loan. It won’t give you any 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 that started 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’re spending more money on inventory, equipment and receivables than you make, you’re going to have a problem. It’s all laid out for you to see and all you have to do is figure out how to read it.
When you go to France you speak French.
Finance is the language of business. French is the language that people speak when they live in France. You need to know the language for where you’re going.
Most of you who read this blog won’t be going to France anytime soon. Most of you will have the ability to see how cash is changing in your business. You need to learn how to read your cash flow statement. Please don’t tell me that it’s too hard. If I could learn it you can too. After all, my degree is in American History and the last I checked, they don’t teach finance there.
In the end it’s all about creating cash.
You have a private business. You do eventually have to show profits. If you don’t, you’re not going to create cash. You’re hopefully growing your business. Unless you have a very unusual business growth will cost you cash before it creates cash. Knowing exactly how this plays out is your responsibility. You NEED to learn how to read a cash flow statement. It’s really that simple.