Let me show you the difference between profits and cash with a simple example. Take the estimates we have in the previous sections for the sales, direct costs, and operating expenses of Garrett’s bicycle shop. Put them together and you have the illustration here below as projected operating income (remember that income and profit are the same thing):
Now we compare that to a simple cash flow projection based on the assumption that the store makes 90% of its sales on account (to be paid later) and its customers wait two months to pay those invoices. (That would be unusual for a bicycle store, yes, but it’s the common case for most existing business-to-business companies.) Also, let’s assume Garrett keeps about a month’s worth of sales as products in the store, called inventory, that customers can buy; and he has to buy those products in advance of selling them. The result is cash flow vastly different from profits, as you can see in the following illustration:
Conclusion: the difference between profits and cash, in this case, is more than $90,000 for a business selling about $30,000 monthly. That business would be profitable but bankrupt for lack of cash. And the change in the two scenarios is just cash flow, not a penny of sales, cost of sales, or expenses. No prices are changed, no new employees added, and no changes made in salary.
Here’s how that difference looks graphically: