Cash flow and profit are often used interchangeably, but they don’t mean the same thing. Each term describes important elements of your startup that deserve your time and attention.
Not sure about the differences between cash flow vs. profit? Don’t worry—you’re not alone. Below, we’ll cover all the nitty-gritty details and nuances you need to know to better understand (and use) these important business metrics.
Cash flow refers to the money moving in and out of your business during a defined period of time. Positive cash flow means more money flowed in than out, and negative cash flow means more money flowed out than in.
Let’s look at a basic cash flow example:
You bought a candy bar today for $1, but you couldn’t manage to sell it before the end of the day. One dollar flowed out of your business today, but nothing flowed in—that means you had a negative cash flow for the day.
Now, let’s say you sell the candy bar a few days later for $2. One dollar flowed out of your business during the week, but $2 flowed in when you sold the bar—that means you had a positive cash flow for the week.
An important distinction for cash flow is that it refers to money flowing in and out of your business, and that’s different from revenue and expenses. You might make a sale today but not receive the actual payment for another 30 days—that money isn’t flowing into your business until it lands in your hand or your bank account. The same goes for expenses: you might purchase a product or service but not have to pay for it immediately—the money only flows out of your business when the money actually leaves your account or wallet.
Let’s look at an example of this action:
You spent $100 during January on marketing and advertising your new product. You finally land a customer at the end of the month, and they agree to purchase $1,000 worth of inventory. You send them the products with an invoice for a 30-payment deadline, but they don’t pay the invoice until February—that means you experienced negative cash flow in January because you had money flowing out of the business but not into it.
You report your cash flow in the cash flow statement. This financial document explains your startup’s exchange of cash during a specific period of time. The period of time element is important here. You don’t measure cash flow at any given time—it’s a measure of the movement of cash over a month, quarter, or year.
This is different from other financial documents, such as a balance sheet. A balance sheet measures your company’s assets, liabilities, and equity as of a specific date—it’s not measuring the movement of cash over time (unless you’re comparing multiple balance sheets to each other). It provides a snapshot.
Profit (also known as net income) refers to the amount of money remaining from your sales revenue after you’ve subtracted all your costs. A profit means you have revenue remaining after subtracting your costs, while a loss means your costs exceeded your revenue.
Profit is typically reported as the following:
Profitable startups have leftover capital to use for various purposes:
While every business’s end goal is profitability, it’s not always quick or easy to achieve. The battle for profitability can often slow growth and lead to missed opportunities. It takes money to make money, and sometimes that means you’ll need to experience months or years of losses to set the stage for long-term profitability.
Businesses report their profits in their income statement—also known as a profit and loss statement (P&L). This financial document explains your startup’s revenue and expenses, thus explaining the gains or losses. Like with a cash flow statement, it’s measured over a period of time and not taken as a snapshot.
While you’ve probably noticed a few differences from looking at the definitions above, here’s a quick overview of cash flow vs. profits:
Neither cash flow nor profit is more important than the other—both illustrate different facts and information about your startup. There’s rarely a single golden metric for understanding the health of a startup. Usually, it requires context and a handful of financial statements to truly understand the business’s situation and potential.
For example, heading toward an economic recession, investors might be more interested in your cash flow rather than your current profitability. While you might be making profits now, they likely want to see your potential to make profits later when unforeseen circumstances hit your business.
Keep an eye on both metrics (and, really, dozens of others) to keep a good pulse on your startup’s financial health. Being proactive about reviewing (and optimizing) these metrics will ensure you’re never surprised by investor or analyst conversations—you’ll always be ready to tackle questions and defend your business.
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