Safe Hands Bookkeeping

Understanding Your Cash-Flow Report

"In the short-term at least, your business can be very profitable and still run out of cash"


Cash or Profit - Which Comes First?

OK, so it’s a bit of a trick question because, to survive, your business needs both – and if you are running it right, one leads to the other.

Cash is the lifeblood of your enterprise and without it, the business can’t run, because employees, vendors and other creditors do like to be paid! In the short-term at least, your business can be very profitable and still run out of cash. History is littered with the corpses of companies which operated very profitably, but failed because the people who should have been watching the cash took their eye off it. Conversely, good cash management can enable a temporarily unprofitable business to stay alive.

So, how can a profitable enterprise run out of money? Often, with a new venture, the temptation is to grow too fast, rather than building conservatively. Or, sometimes, things just take off more quickly than you planned. This can lead to you overstretching your resources, trying to fulfill demand and not wanting to turn away customers. Even well-established businesses can run into difficulties if the market conditions or other circumstances suddenly change, or simply if the business management take their eye off the ball.

Some reasons for negative pressure on your cash flow could be:

  • Overstocking inventory to give yourself a “cushion” (or from just not knowing what your optimum stock levels should be yet).
  • Purchase of machinery or other fixed assets, which do not generate an instant return.
  • Loan payments to the bank.
  • Pressure to pay from suppliers or other creditors.
  • Slow or non-payment from credit customers.
  • Having to sell inventory at less than cost due to market changes.

None of these cash outflows will be apparent from looking at your P&L so, if that’s all you’re looking at, you could be happily sailing along without noticing that iceberg until it’s too late.

Exactly what is a cash flow statement?

In simple terms, it’s a combination of some key numbers from your P&L (your trading profit, adjusted for non-cash items such as depreciation expenses) and the changes in your balance sheet accounts.

Examples of cash inflows would be your bottom-line profit, a reduction in your debtors (meaning you have generated cash by lowering what you are owed), a reduction in inventory, etc. Examples of cash outflows would be a reduction in your accounts payable (meaning you have spent cash to pay them off), purchase of fixed assets, etc. Put simply, an outflow would be an increase in an asset account/decrease in a liability account and vice-versa for an inflow.

There are two main methods of constructing the statement, but each is divided into three main sections.

Under the most common method used for small businesses, you will see cash inflow/outflow due to:

  • Operating Activities – bottom line adjusted for changes in current assets and liabilities and non-cash items.
  • Investing Activities – purchase/sale of fixed assets.
  • Financing Activities – owner/shareholder investments or withdrawals and changes in long-term debt.

By reviewing this report at the end of each month, you can see where you spent your money and whether there are any areas where the result is not what you would have expected. Plotting the monthly results on a spreadsheet or a graph is a great way to track inflows and outflows and see trends, enabling you to react and make adjustments, to put you back on course. You can use these trends to forecast future cash flows and anticipate possible problems.

Other uses of the Cash Flow Statement:

  1. Helping with financing decisions

Growing your business inevitably uses cash – increases in inventory levels, investing in machinery, extending credit to more customers, etc. The question here is how you are going to finance it. Careful review of your Cash Flow Statements will help you decide whether you will be able to finance from your own cash reserves or whether you will need to borrow from your bank or possibly raise capital from an outside source.

  1. Help with securing finance for growth

Once you have made the decision to seek outside financing, the bank or prospective investor will inevitably want to review your financial statements, especially the Operating Activities portion of your cash flow report, to ensure you are a reliable investment. While net income shows if the company is keeping its head above water for now, its operating cash flow shows if it’s actually making money—and few investors want to put their money into a business that doesn’t generate cash.

  1. Key Performance Indices (KPI’s) and Industry Comparisons

The cash flow statement can be used as a measurement of how efficiently cash is managed in your business, by comparing the cash from operations to your net income. This ratio can then be compared to a benchmark derived from comparing similar businesses in your industry.

  1. Creating Excess Cash

All businesses need excess cash, as a buffer for unexpected expenses. Your cash flow statement can help you focus on creating this.

As well as generating cash through trading profits, you can create cash through efficient cash management efforts like collecting your customer receivables faster, negotiating better deals on capital purchases, more efficient use of inventory and supplies, etc.

  1. Crisis Management

Nobody wants to think about this, but crises occur – recessions and market slumps for instance (COVID shutdown is an unwelcome reminder of how suddenly and unexpectedly the bottom can fall out of the market) – and efficient cash management and monitoring can enable you to see what your minimum cash requirements are and where you can make rapid adjustments. This can be the difference between survival and closing your doors.


For the small-business, cash really is king. An overall positive cash flow indicates that your business is headed for success. If you don’t have positive cash flow yet, use your cash flow statement to see where you can make adjustments and how to bring your business back on track.

If you’re not sure where or how to start, click below, so we can set up a short exploratory meeting and get you on the right track.