As a business coach, one of the fundamental lessons I impart to my customers is the vital importance of cash flow management. Cash flow is the lifeblood of any business, and understanding the primary avenues through which cash is generated can make the difference between thriving and merely surviving. There are essentially three ways to generate cash for your business: through operations, financing, and investing. Let’s delve into each of these in more detail.

1. Cash from Operations: Doing What You Do Best

Generating cash from operations is the most sustainable and preferable method for a business. It involves the day-to-day activities that your business engages in to generate revenue. Your operations cash flow is like the engine room of your enterprise, where the core products or services are created, marketed, and sold.

The key business priorities for generating cash from your operations include the following:

•  Generating revenue: This includes sales of goods or services. Consistently increasing sales while managing expenses effectively is crucial.
• Managing expenses: Controlling operating expenses ensures that more of your revenue is converted into profit.
• Improving efficiency: Streamlining operations can reduce costs and improve productivity, in turn boosting cash flow.

Prioritizing operational cash flow is vital to a successful business because it indicates a healthy, self-sustaining enterprise. Managing the above priorities while enhancing customer experience, optimizing pricing strategies, and continuously improving product or service quality will drive your operational cash flow.

2. Cash from Financing: Leveraging Debt and Equity

The second avenue of generating cash flow is financing, which involves borrowing money or raising funds from investors. While less ideal than generating cash from operations, financing is sometimes necessary to support growth, manage working capital, or navigate challenging times.

There are two primary types of financing:

•  Debt Financing: This includes taking out loans or issuing bonds. While debt must be repaid with interest, it can provide immediate funds for expansion at a critical time for growth (or other needs).
• Equity Financing: Selling shares of your company to investors in exchange for capital. This doesn’t require repayment but does dilute ownership.

Financing can be a double-edged sword; it can provide the necessary capital to seize growth opportunities, but it also comes with risks, such as interest obligations and potential loss of control. A sound financing strategy should balance these risks, ensuring that debt levels remain manageable and that equity is only diluted when it aligns with long-term goals.

2. Cash from Investments: Selling Assets

The third method is generating cash by liquidating investments you’ve made for your business. This strategy can include selling off assets, such as equipment, real estate, or even entire business units that are no longer core to your business strategy.

Below are three critical considerations for your investing activities:

• Asset Management: Regularly review your asset portfolio to identify non-essential or underperforming assets.
• Strategic Sales: Consider selling non-core assets to free up capital, which can be reinvested in higher-return areas of your business.
• Investment Income: Earning returns from financial investments can also contribute to cash flow.

This method can provide a significant influx of cash but should be approached cautiously. It’s essential to ensure that selling assets aligns with your long-term strategic goals and doesn’t undermine your operational capabilities.

Balancing your Cash Flow Sources

Each of these three sources of revenue has its place in a comprehensive cash flow strategy.  Remember, cash from operations is most reliable, and wisely leveraging financing can support growth and stability. At the same time, strategic asset sales can optimize resource allocation. All three avenues can help your business grow and remain stable. Strategically integrating these three methods of generating cash could look like this:

• Optimizing your operations to boost cash flow by improving efficiency and controlling costs.
• Seeking financing to invest in new technology to expand your capacity to produce
• Selling outdated equipment to raise additional funds.

As your business coach, my goal is to help you navigate these avenues effectively, ensuring your business can not only survive but thrive in any economic climate. As always, if you have any questions or want to learn more about cash flow management services for your business, please feel free to contact us anytime.

I’ll never forget my first tax season at a local CPA firm, one customer meeting in particular. We were sitting across the table from a nice young couple expecting their first child. They had started a small construction company that year and did quite well. The purpose of our meeting was to deliver the tax return, tell them the balance due for taxes, and answer any questions they might have about the Federal and state tax returns and future estimated tax payments.

When I shared with them that they owed just shy of $10,000 in income taxes, the young lady burst out in tears! They didn’t have the money. They had profits–but no cash. No one had ever explained the difference to them, and they were not expecting a balance due of that magnitude.

This meeting changed their lives and the course of my career. I never again wanted to sit across the table to deliver unexpected news to a bright-eyed entrepreneur and his expecting wife.

Therein began my career of teaching small business owners the difference between profits and cash, along with many other nuances of business ownership that no one ever tells you (including the fact that approximately 40% of your profits will go to pay income taxes). It’s a harsh reality, and knowledge is power. These outflows of cash can be planned when you have advanced notice. This type of planning is usually called tax planning, business planning, revenue planning, and/or profit planning. But knowing the difference between profit and cash is a good place to start — let’s dive in.

Here is the short and sweet on the difference between profits and cash. Profit is revenue minus expenses. Cash is money in minus money out. There is a fancy, seldom understood financial report called a Statement of Cash Flows that reconciles your profit to your cash, and is part of a comprehensive financial statement package which will also include your Balance Sheet and Profit and Loss Statements.

Most small business owners only look at the profit and loss, pay little (if any) attention to the balance sheet, and have never heard of the Statement of Cash Flows.
However, I would argue that the Statement of Cash Flows is the single most important financial report. It will tell you how much profit you made, where the money went, and what’s left of your profit.

There are certain things that you spend money on that are not tax deductible: some are not deductible at all, and some not immediately. They use cash, deplete your bank account, and do not reduce profits.

 Let’s discuss a few common examples:

Equipment – you buy a new piece of equipment for your business. This might look like a walk-in cooler for a restaurant, a forklift for a warehouse, a work van for a construction company, a new stitcher for a manufacturing facility, or a company truck for the business owner. These items are Assets with a useful life extending beyond a one-year operating cycle and are reported on the balance sheet. They affect cash and do not affect profit until they are depreciated. When you make an investment in a piece of equipment like this, it is not immediately deductible. You’re out the cash and do not have an expense deduction–yet.

Loan Payments – Let’s say you buy that forklift and take a loan for it because the interest rate is better than what you’re making on your savings, or you don’t actually have the cash to pay for it outright. While the interest paid on the loan will be tax deductible, the loan payments themselves are not. The principal portion of the loan payment reduces the loan Liability account on the balance sheet. It affects cash, but never profits.

It is important to reconcile profits to cash, to find out where the money came from and where the money went. You never want to be caught short at the end of the year without enough cash to pay the taxes on the profits generated by your business. And hey, those federal income taxes you pay? Those are not tax deductible either.

While New Business Directions doesn’t prepare tax returns, our clients can benefit from the types of planning we mentioned above. Having a CPA in your corner throughout the year can make or break you at tax time–we can consult with you on the best time to make a capital expenditure decision, keep you informed about the speed at which cash is entering and leaving your business, and more. If you’d like to discuss cash vs. profit within your company, complete our intake form to get started.