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Home Business Finance Cash Flow Vs Profit: What’s The Difference?
What’s the difference between cash flow and profit?
As a business owner, these two terms can feel interchangeable. But the truth is, they’re far from it—and knowing when to prioritize one over the other can help you make better strategic decisions in that moment.
Whether you’re just starting a business or have an established brand, you’ll feel the effects of cash flow similarly. Cash flow is simply the movement of liquid money (cash) in and out of your business at a specific point in time.
When you execute a business transaction and receive money, that’s an inflow of cash. When you spend money on inventory, bills, or other expenses, that’s an outflow of cash. As you track the movement (flow) of cash in and out of your business, you’ll find that you are either operating:
If you have positive cash flow, you have enough cash to cover your financial obligations. If you’re operating with negative cash flow, you are not bringing in enough cash to cover your current expenses and will likely need additional business financing to continue running at your current pace.
Profit refers to the remaining revenue after all expenses are paid. If you have a positive value after subtracting total expenses from total revenue, then you’re profitable. If you have a negative value, you’re spending more than you’re making over that timeframe and are operating with a loss.
Profit can be used in many ways. You can distribute profit to other owners or shareholders, invest it back into the business, or save it in a reserve fund in case of emergency.
For many small businesses, profitability fluctuates throughout the year. Take toy and hobby retailers, for example, which arguably see the bulk of their sales in the final quarter of each year. This imbalance creates cyclical ebbs and flows of profitability, which can be misleading without the proper context.
Cash flow and profit are just two of many financial metrics business owners and investors use to assess the health of a company. Both measurements have their own advantages and disadvantages, and it’s up to you to understand how to use each to make better strategic decisions.
However, the difference between profit and cash flow can be tricky to grasp because they both relate to the balance of money within your business. Complicating the matter further, businesses can actually operate with a positive cash flow without being profitable—and may be profitable with a negative cash flow.
Timing is the subtle difference that needs to be considered when comparing cash flow to profit.
Cash flow focuses on the past, looking at the actual money that has come in or left your business at a specific point in time. Profit looks at the past, present, and future of your business and includes liabilities like accounts receivables and long-term debt, which are expected expenses or future cash.
For example, if you sell an item on credit, you don’t actually have the cash on hand—it’s an account receivable, which still needs to be collected. However, it’s considered revenue because the liability of payment has passed on to your customer, and it is used to measure profitability.
On the other hand, cash flow will only measure money that comes in and leaves your business. As a result, it won’t recognize that transaction until the cash is received from the credit purchase.
Cash flow and profit both have their purposes as financial metrics, and business owners would be wise to measure and analyze each ongoingly and for different scenarios.
For example, if you want to have an overarching view of your business and its long-term viability, profit can shed more insight than cash flow because it takes a holistic view of your income and financial obligations. However, if you want to see a snapshot of your financial efficiencies at a specific point in time, cash flow may give you more perspective because it’s focused more on your day-to-day operations.
We’ve outlined the difference between cash flow and profit as well as when each is most important. So, let’s take a look at a few scenarios and see if you can apply this understanding to real-world examples.
At the end of the quiz, we’ll see how you did.
Your business will have negative cash flow throughout this contract and will only make a profit once the contract is closed, which will happen within 45 days after completion. You need to complete the job for less than what you are charging the client to turn a profit, otherwise, you will end up with a net loss. Focus on keeping your expenses down to ensure profitability once the job is completed, regardless of the payment terms or the type of business you run.
Answer: In this scenario, cash flow is more important than profit.
To take on and cover the expenses of new projects, you need new cash coming in now regardless of the profitability of the projects near completion. Access to business financing would give you the funds you need now to generate even more revenue in the future.
Answer: In this scenario, profit is more important than cash flow.
The company’s overall profit will hold the most weight in the valuation process. Demonstrating consistent profitability showcases financial stability and growth potential, impacting how investors, analysts, and the market perceive the organization.
For businesses with seasonal fluctuations in revenue, emphasizing cash flow over profit helps manage irregular income patterns effectively. Maintaining a healthy cash flow enables these businesses to bridge gaps during slow seasons, pay suppliers, and prepare for peak periods without relying solely on profitability.
Cash flow plays a pivotal role in business expansions. Positive cash flow ensures the availability of resources for capital expenditures, equipment upgrades, and infrastructure development without solely relying on current profitability.
If you answered all 8 questions correctly, awesome. If you didn’t, it’s okay—understanding the difference between profit and cash flow can be tricky. Regardless of how well you did on the quiz above, you’re on the right track if you made it this far because you’re serious about making better strategic business decisions.
Cash flow and profit are both important, and business owners and investors may focus on each at different times and for specific reasons. Determining whether profit or cash flow is more important will be based on your unique situation.
Understanding the relationship between cash flow and profit can help you identify when to look at one or the other. This insight alone will put you in a better position to make the right decisions to guide your business forward.
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Derek Miller is the CMO of Smack Apparel, the content guru at Great.com, the co-founder of Lofty Llama, and a marketing consultant for small businesses. He specializes in entrepreneurship, small business, and digital marketing, and his work has been featured in sites like Entrepreneur, GoDaddy, Score.org, and StartupCamp.
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