understanding business cash flow. about the sbdc eighteen centers in pennsylvania more than 1,000...

Understanding Business Cash Flow

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About the SBDC

• Eighteen Centers in Pennsylvania• More than 1,000 Centers Nationwide

The SBDC network provides free confidential one-on-one consulting to current or potential small business owners and free and low-cost educational programs.

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Compare and Contrast

• What is Net Income?• What is Cash Flow?• Why do we study Cash Flow?

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How to Go Broke While Making a Profit

• APC Co. makes widgets.• The company is very successful with rapidly

increasing sales.• Widgets cost $.75 to make.• Widgets sell for $1.

Story reproduced and adapted from article in Business Week, April 28, 1956 pp.46-54

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APC Company

January February March April May June

Units Sold 1,000

Total Revenue 1,000Cost of Goods Sold (750)Net Income 250

YTD Net Income 250

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APC Company


Units Sold 1,000 1,500

Total Revenue 1,000 1,500Cost of Goods Sold (750) (1,125)Net Income 250 375

YTD Net Income 250 625

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APC Company


Units Sold 1,000 1,500 2,000

Total Revenue 1,000 1,500 2,000Cost of Goods Sold (750) (1,125) (1,500)Net Income 250 375 500

YTD Net Income 250 625 1,125


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APC Company


Units Sold 1,000 1,500 2,000 2,500

Total Revenue 1,000 1,500 2,000 2,500Cost of Goods Sold (750) (1,125) (1,500) (1,875)Net Income 250 375 500 625

YTD Net Income 250 625 1,125 1,750


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APC Company


Units Sold 1,000 1,500 2,000 2,500 3,000

Total Revenue 1,000 1,500 2,000 2,500 3,000Cost of Goods Sold (750) (1,125) (1,500) (1,875) (2,250)Net Income 250 375 500 625 750

YTD Net Income 250 625 1,125 1,750 2,500


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At 8:00am on June 1st, APC’s president got a desperate call from his treasurer:

‘Help, we ran

out of money!’

What happened? What went wrong?

Why did APC, a profitable company, go broke?


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‘Profit is not cash!’


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What other variables need to be

factored into this scenario?

•APC company keeps a 30-day supply of widgets in inventory, based on projected sales•APC’s customers have 30 days to pay for their purchases


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APC Company


Projected Sales 1000 1000Actual Sales 1000

Beginning Cash 1,000Received on Account 1,000Cost of Goods Sold (750)Increase in Inventory

Ending Cash Balance 1,250


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APC Company


Projected Sales 1000 1000 1500Actual Sales 1000 1500

Beginning Cash 1,000 1,250Received on Account 1,000 1,000Cost of Goods Sold (750) (1,125)Increase in Inventory (375)

Ending Cash Balance 1,250 750


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APC Company


Projected Sales 1000 1000 1500 2000Actual Sales 1000 1500 2000

Beginning Cash 1,000 1,250 750Received on Account 1,000 1,000 1,500Cost of Goods Sold (750) (1,125) (1,500)Increase in Inventory (375) (375)

Ending Cash Balance 1,250 750 375


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APC Company


Projected Sales 1000 1000 1500 2000 2500Actual Sales 1000 1500 2000 2500

Beginning Cash 1,000 1,250 750 375Received on Account 1,000 1,000 1,500 2,000Cost of Goods Sold (750) (1,125) (1,500) (1,875)Increase in Inventory (375) (375) (375)

Ending Cash Balance 1,250 750 375 125


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APC Company


Projected Sales 1000 1000 1500 2000 2500 3000Actual Sales 1000 1500 2000 2500 3000

Beginning Cash 1,000 1,250 750 375 125Received on Account 1,000 1,000 1,500 2,000 2,500Cost of Goods Sold (750) (1,125) (1,500) (1,875) (2,250)Increase in Inventory (375) (375) (375) (375)

Ending Cash Balance 1,250 750 375 125 0


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Remember—Profit is not cash!

•APC grew their inventory as sales increased•APC grew their receivables as sales increased•Inventory and receivables are great assets to have, but they are not cash


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What exactly is cash flow?

“The inflows and outflows of

cash in a certain period”

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Why do we study cash flow?

• To identify problems in a business• To determine how a business is funding

certain activities• To determine if a company is managing its

funds wisely• To identify future funding needs• To explain the relationship between net income and changes in cash

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Sources and Uses of Cash

• Typical sources:

What provides or frees up cash?– Sales, loan proceeds, investor funds, interest

income, credit from vendors (accounts payable)

• Typical uses:

What uses or ties up cash?– Paying employees, paying suppliers, repaying loans,

paying operating expenses, paying taxes, capital expenditures owner’s withdrawals, credit to customers (accounts receivable)

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Projecting Cash Flow

• Starting Cash Balance• Beginning Inventory• Beginning Accounts Payable• Beginning Accounts Receivable

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Projecting Cash Flow

• Estimate sales figures: – How much will be cash sales?– How much will be paid on account (30, 60, 90 days)?– What is the seasonality of the revenues?

• What are the operating expenses and when are they due during the year? Will there be any changes in these expenses during the year?

• Are capital expenditures planned? When will they take place and how will they be financed?

• How much of an owner’s withdrawal is planned?• How much inventory is needed?

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What is your cash balance at the end of April?

• There is $5,000 in the checking account on January 1st

• A copier is purchased on account, with $500 payments in January, February, and March• Office supplies expense is $50 per month• Payroll is $1,000 per month with payroll taxes due quarterly at 12% of wages• Hook-up fees for the phone will be $200 and the expense will be $75 per month • Quarterly insurance payments of $500 are due starting in March • Rent is $350 per month• Electric bills will be $50 per month from April through October, and $150 per month from

November through March• Other utilities are $40/month• Sales are estimated $10,000 for January and February, $5,000 for March, and $10,000

for April through December, with 50% of each month’s sales due in 30 days • 25% of the total sales are on credit card, with merchant processing fees of 2%• Cost of goods sold is 40% of sales• Vendor terms are cash on delivery only • Advertising expense is $200 per month• Owner’s withdrawals are $1500 per month• Starting inventory is $15,000• Quarterly estimated taxes of $400 are due in April, July, and October

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The Unexpected Happens

• In April, a customer calls and says he is not able to pay you the $2,500 he owes this month

• The marketing department is planning a new

campaign, and thinks inventory should be increased by $ 3,500

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Cash Flow vs. Profit

Which company generated enough cash from this year’s operations to repay its $10,000 bank loan?

Profit/(Loss)

Company A

$30,000

Company B

$10,000

Company C

($5,000)

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Cash Flow vs. Profit

Income Statement

Profit/(Loss)

Company A

$30,000

Company B

$10,000

Company C

($5,000)

Change in Inventory

(Increase)/Decrease

($20,000) ($1,000) $5,000

Change in Receivables

(Increase)/Decrease

($20,000) $5,000 $10,000

Net Cash From Operations

(Used)/Provided

($10,000) $14,000 $10,000

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When Cash Flow is Reduced

• Reduce expenses and outflows:– Cut back owner’s withdrawals– Decrease payroll hours or benefits– Shop for different suppliers– Predict revenues realistically to determine

expenses accurately– Don’t buy unnecessary items– Buy used equipment and fixtures– Lease rather than purchase

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When Cash Flow is Reduced

• Implement new marketing campaigns to increase sales• Add other product lines to round out seasonality• Review inventory:

– Decrease inventory on hand– Discount and sell off old inventory

• Review product pricing• Tap into a capital expense or emergency fund

• Sell off unused assets• Negotiate with vendors• Meet with your lender• Borrow on a line of credit or factor receivables

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Tips to Manage Cash Flow

• Schedule a time each day or week to review your financials and balance your bank statements and merchant account statements.

• Know your customers and keep open communications and maintain a firm business relationship with them

• Plan for seasonal changes• Have controls for handling cash, including segregation of

duties• Have procedures for collection of accounts• Watch inventory closely

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Summary

• Operate your business according to your cash flow budget--all decisions must consider cash!

• Review your accountant’s cash flow statement or prepare your own

• Ask the SBDC to help you prepare

and understand your cash flow

statement

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Questions??

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understanding business cash flow. about the sbdc eighteen centers in pennsylvania more than 1,000...

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