By Andrew Frazier

Profit (Income) is not the same as cash flow.  Which is most important?  Well, you can have negative profits and still stay in business.  However, when your cash balance is negative, you must add additional capital (funds) or your business is over.

Many business owners get themselves into trouble by assuming that their company’s available cash will go up by as much as their profits.  Unfortunately, it is a lot more complex.  Just because your company made a profit doesn’t necessarily mean that your cash increased.  Therefore, your company can run out of cash by growing too fast as easily as it can from not having enough sales to cover expenses.   How is this possible?

It is easy to understand how your company can run out of cash if it is losing money but running out of cash when your sales and profits are growing doesn’t make sense at first glance.  However, most businesses require an additional investment in marketing to achieve higher sales, it takes money to build additional capacity, and it takes cash to purchase additional inventory.  This will cause a drain on cash in advance of realizing additional cash inflows from the growth in sales and profitability.

Profit = Sales – Expenses (Excluding Asset Purchases)

Cash Flow = Cash Inflows – Cash Outflows

One of my clients, Andy Vieira, CEO of Trucktech Parts and Services, learned this lesson the hard way.  Andy grew up in Brazil and loved working on trucks and heavy equipment in the hot sun.  The dirtier and grimier the job was, the more he liked it.  Fast forward to coming to America and being an independent truck driver.  Since other drivers always wanted him to repair their trucks, he ended up setting up a mobile truck repair business.  From there he opened a small parts store, then a single bay repair shop, and now he owns a multi-million-dollar business in the Ironbound section of Newark, NJ.  He recently completed the Goldman Sachs 10k Small Businesses training and is in the process of opening a paint spray booth for trucks as part of the growth plan that he developed.

Andy was perplexed by how his company grew by 20% and made a lot of profits but he could not figure out where the money went.  What was even worse is that he incurred a hefty tax bill and didn’t have the money to pay it.  How did this happen?

We will explore what happened by looking at his numbers (fictional numbers are used below for instructional purposes and to simplify the example).  Let’s start by looking at his income statement for the year…

Income Statement (P&L) 201X
REVENUE + $1,000,000 100% Sales
Variable Cost (COGS) $500,000 50% Costs directly related to sales
Gross Profit = $500,000 50%  
Fixed Expenses $300,000 30% Costs incurred w/or w/out sales
Profit = $200,000 20% Pre-Tax


Now let’s look at his cash flow statement to see what happened to the profits…

Cash Flow Statement 201X
Profit + $200k Pre-Tax Profit
Equipment Purchase $75k Fixed Asset Purchase non-expense
Additional Inventory $50k Current Asset Purchase Non-Expense
A/R Increase $35k Accounts Receivable Credit to Customers
Loan Principle $25k Paydown Loan Balance
Owner Draw $25k Taking Cash for Personal Use
A/P Increase + $10k Borrowing from Suppliers
Net Cash = $0 Change in cash during the year


Even though the business made $200k of profits its cash balance stayed the same as when the year started because there was $200k in non-expense cash outflows.  Plus, Andy now has a tax bill of $50k.  Fortunately, he had excellent credit and the company was profitable.  As a result, he was able to quickly secure financing to cover the shortfall.  This saved him from incurring significant fines from the IRS and a potential lien on his personal credit.  Many entrepreneurs in similar situations are not so fortunate.

As a small business owner, making money is important but having cash is critical. Consider ways you can assure that your business has enough cash on hand:

  1. Securing payment terms from your vendors to balance payables and receivables.
  2. Collect progress payments against your contracts when possible.
  3. Apply for financing before you need it.
  4. Use revolving lines of credit judiciously to cover cash shortfalls.

Andrew Frazier, MBA, CFA, SBP is the President of A&J Mgmt and Business Pro @ Small Business Like A Pro ( in New Jersey. He helps small businesses owners grow revenue, increase profitability and obtain financing through coaching, consulting, and training services.  He is also the author of Running Your Small Business Like A Pro because the More You Know, the Faster You Grow.

Business stock photo by Palto/Shutterstock