Why a profitable business can still run out of cash

It is one of the most common surprises in business. The income statement shows a healthy profit, yet there is not enough money in the bank to pay suppliers, salaries or tax. Nothing is wrong with the numbers. Profit and cash simply measure different things.

Profit versus cash

Profit is earned when you make a sale, whether or not the customer has paid. Cash moves only when money actually enters or leaves your account. The gap between the two is where businesses get into trouble.

Where the cash goes

• Customers who pay late. A sale on 60-day terms is profit today, but cash in two months.
• Stock on the shelf. Money spent on stock sits there until the stock is sold and paid for.
• Growth. Taking on bigger orders often means paying for materials and staff before the customer pays you.
• Loan repayments and equipment. These use cash but do not show up as expenses in the same way.
• Tax. Provisional tax and VAT payments fall due on fixed dates, whatever your bank balance.

Practical ways to improve cash flow

• Invoice promptly and follow up on overdue accounts as a routine, not a favour.
• Agree clear payment terms up front, and consider deposits for larger jobs.
• Keep stock lean, ordering what you need rather than what might be useful.
• Plan for tax by setting aside a portion of income every month.
• Prepare a simple cash-flow forecast for the next three months and update it regularly.

A cash-flow forecast does not need to be complicated. It needs to be honest and kept up to date.

A three-month forecast shows shortfalls before they happen, while you still have time to act: chase a payment, delay a purchase or arrange finance on your terms rather than in a hurry.