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Cash Flow Vs. Profit | What’s More Important for Your Business?

Noah Parsons

8 min. read

Updated November 23, 2024

Believe it or not, a profitable business can actually run out of cash. You may be growing quickly and bringing in profits but running out of cash in the bank.

How can this be? Let’s explore the differences between cash flow and profits and find out.

Cash flow and profits explained 

Let’s start with some quick definitions:

What is cash flow?

Cash flow measures the amount of cash moving in and out of your business during a specific period of time. 

Cash Flow = Cash Received – Cash Paid Out

For example, if you received a $5,000 payment from a customer last month and paid $3,000 worth of bills in that same month, your cash flow would be $2,000.

Cash flows into your business when:

• •Customers pay for goods and services
• •Savings accrue interest
• •You receive money from loans or investments
• •You sell an asset, such as a car or property

Cash flows out of your business when you:

• •Pay bills and other expenses
• •Buy inventory
• •Pay back a loan
• •Pay taxes
• •Pay salaries
• •Buy an asset, such as new equipment or a truck

You can have positive cash flow, where more cash is coming into your business than out, or negative cash flow, where more cash flows out of your business than in.

What is profit?

Profit is how much a company makes after subtracting its costs and expenses from its sales during a specific period of time.

Profit = Sales – Costs & Expenses

What’s the difference between cash flow and profits?

On the surface, profit and cash flow look pretty much the same. So, what’s the real difference? There are two main factors:

Timing

Many businesses make a sale and then send an invoice to customers with terms like “net-30” or “net-60”. They don’t collect payment immediately. 

This sale will be included in the Profit equation as soon as the sale is made, even if the customer hasn’t paid yet.

However, when you calculate cash flow, you won’t include money from this sale until the customer has actually paid.

This means that a sale made this month will impact our profits this month, but might not impact our cash flow for one, two, or potentially even three months from now. You wait to record the impact of the sale on cash flow until you actually receive the money.

The same is true for expenses. If you incur an expense this month but don’t pay the bill until next month, your profits will be impacted this month, but your cash flow won’t be impacted until next month.

The source of the money

The other thing that differentiates profits from cash flow is the type of things you spend money on and where some of your money comes from.

When you calculate profit, you only include money made from sales and operating costs and expenses. You DO NOT include:

• •The purchase or sale of assets, such as property or equipment
• •Money from loans or investments
• •Repayments of loan principal (you DO include interest payments in profit calculations)

However, all of these are included in your cash flow calculation.

Other non-cash items, such as depreciation and amortization, can also impact your profits while having no impact on your cash. We won’t discuss these in this article, but they further illustrate the difference between Cash Flow and Profits.

Recap:

• •The key difference between cash flow and profits is timing.
• •Cash flow is recorded when cash flows into and out of your business.
• •Not everything that impacts cash flow is part of the profit calculation.
• •Profits are recorded when you make sales and commit to expenses—even if a customer doesn’t pay you or you don’t pay your bills immediately.
• •Profit only accounts for Sales, Costs, and Expenses. 
• •Profit doesn’t account for buying assets, paying down a loan, or for cash received from an investor or a lender.

A real-world example of the relationship between cash flow and profitability

At the start of the month, you have $9,000 in your business bank account. That same month, you make a $10,000 sale and send an invoice to your customer. However, your customer doesn’t pay right away.

While waiting for the customer to pay, you have to pay rent, salaries, and utilities. The total of these expenses is $8,000 and you send checks to pay for them immediately. When you calculate your profit, your business will show a profit of $2,000. 

$10,000 (sale) – $8,000 (expenses) = $2,000 (profit)

However, your bank account tells a different story:

$9,000 (cash in the bank) – $8,000 (paid expenses) = $1,000 (cash balance)

Even though your business is technically profitable, your bank account has $8,000 less than when you started the month because your customer hasn’t paid you yet and your cash flow is negative. Here’s the cash flow calculation:

$0 (cash received) – $8,000 (cash paid out) = -$8,000 (cash flow)

This means you now only have $1,000 in the bank. If you need to pay more bills before your customer pays you, you risk running out of cash.

Is cash flow or profit more important?

Despite “the bottom line” (profits) often getting all the glory, cash flow—knowing how much cash is in the bank and whether your business is building up or losing cash—is what really matters.

Yes, profitability is still important. When your business is profitable, you know that your business model works and that you are making more money than you are spending.

However, unlike profit, if your business runs out of cash, you will start bouncing checks and soon be out of business, which is the case for nearly 38% of businesses in the US.

How fast growth can build profit and eat cash

If you read the history of Nike, you’ll be surprised to learn how the world-famous shoe company nearly went out of business time and time again as it grew. In the early days, despite fast growth and booming popularity, the company was perpetually on the edge of bankruptcy. 

How was this possible? The answer is surprisingly simple:

1. 1.As Nike’s shoes became increasingly popular, retailers placed larger and larger orders for them. 
2. 2.Nike had to fulfill those orders and pay its manufacturers to make and deliver the shoes. 
3. 3.The manufacturers would require payment up front before making the shoes, while the retailers wouldn’t pay Nike until the shoes had actually been sold to customers. 

So, while Nike showed huge profits on paper from the sale of their shoes to retail stores, they were perpetually on the brink of running out of cash because they had to pay to manufacture the shoes before actually getting paid by the retailers.

This kind of fast growth nearly killed the company several times over in the early years. 

And it can kill your business too—if you aren’t paying attention to your cash.

Understanding your cash is critical

Because cash flow and profits are so different and because cash is the lifeblood of your business, the only way to stay on top of it is to create a cash flow forecast. 

With a cash flow forecast in hand, you can experiment with different variables to understand how to run your business best and keep cash in the bank.

To learn more about creating a cash flow forecast and how to use it, check out these resources:

• •Tips for more accurate cash flow forecasts: Get more out of your cash flow projections by following these five recommendations.
• •How to review your cash flow statement: These are the five things to look for when performing a cash flow analysis.
• •Know how long your cash will last: See how calculating your burn rate can help you understand how long your cash runway is and if you can keep spending.
• •Cash flow statement template: Build your own cash flow forecast with this free cash flow forecast template.
• •Avoid cash flow problems with a monthly review: Learn how to make reviews of your cash performance and forecasts a regular exercise for your business.

FAQ

Is cash flow the same as profit?

No, cash flow and profit are not the same thing. Cash flow refers to the net amount of cash going in and out of your business, while profit is the financial gain after all expenses have been deducted from revenue.

The difference between the two relates to the timing of when you get paid, when you pay your bills, and the types of things the money is spent on. Not all spending is accounted for in your profit and loss statement, and not all expenses are accounted for in a cash flow forecast.

Can you be cash flow positive but not profitable?

Yes, a business can be cash flow positive but not profitable. This situation occurs when more cash comes in than goes out in a given period, but overall expenses exceed revenue, leading to a net loss.

Can you be profitable and cash flow negative?

Yes, a business can be profitable and cash flow negative. This happens when a business shows a profit on paper, meaning sales exceed expenses, but cash going out exceeds cash coming in for the same time period, resulting in negative cash flow.

What’s the difference between being cash flow positive and profitable?

Being cash flow positive means receiving more cash than you pay out during a specific time period. In contrast, being profitable means your revenues exceed your expenses over that period.

The key difference lies in the timing: cash flow positivity indicates that actual cash has been received, while profitability doesn’t necessarily mean that cash is currently in the bank.

Noah Parsons

Before joining Palo Alto Software, Noah Parsons was an early Internet marketing and product expert in the Silicon Valley. He joined Yahoo! in 1996 as one of its first 101 employees and become Producer of the Yahoo! Employment property as part of the Yahoo! Classifieds team before leaving to serve as Director of Production at Epinions.com. He is a graduate of Princeton University. Noah devotes most of his free time to his three young sons. In the winter you'll find him giving them lessons on the ski slopes, and in summer they're usually involved in a variety of outdoor pursuits. Noah is currently the COO at Palo Alto Software, makers of the online business plan app LivePlan.