It’s a question we get asked, and a scenario we see often. Your business has had a  bumper year, you’ve got a nice net profit, yet when you go to look at the bank account, the funds are not there.

Where has all of that net profit gone?

This is the difference between cash flow and profit.

Profit is a great and helpful indicator of a business’s performance and you’ll find this on your Profit and Loss Statement. Cash flow is more important for keeping the business humming day-to-day, it’s the tangible cash we use to pay for things within our business. The old adage cash flow is king certainly rings true, with ASIC insolvency statistics indicating that of the business’s that fail, nearly half of those were due to poor cash management.

So why is the cash flow not matching the net profit?

There are many potential reasons, but these are the most common:

  • Assets – Did you purchase that flash new Mac or perhaps a company car this financial year? That will explain where a big chunk of the cash flow has gone. Any asset purchases will be sitting in your asset accounts. The good news is they can be depreciated over several years (if not instantly written off) so there’ll be some tax benefit to flow through during that period.  Keep in mind, if you’ve got a healthy net profit, there’ll be a tax bill on those profits and now with less cash to pay it with because of the asset purchases.
  • Prepaid tax instalments – If you’re travelling along with a healthy net profit, the chances are the ATO has  asked you to pay quarterly prepaid income tax instalments. If that’s the case, the ATO is kindly holding your funds on your behalf. Not to worry, if you’ve overpaid on the instalments, the ATO will refund any excess at tax time.
  • Loans – If you operate a company and you’ve borrowed money from the company to pay for the mortgage or the rent, then you’ve already taken a chunk of those funds that would normally be in the business bank account
  • Trade debtors – There’s a decent chance that much of the profit is tied up in the trade debtors. The good news is that the funds will eventually hit your bank account, however if your debt collection processes are quite relaxed, then it might take some time to reel those funds in. Best practice is to keep the debtor days (the average number of days clients take to pay) as low as possible.
  • Inventory – If your business is carrying a lot of inventory, then it may have spent some of those profits on stock. The trick with inventory is to hold as little as possible to free up cash flow. If this is your business, it might be worth reviewing stock levels and inventory purchasing processes.

What is the solution?

Creating a cash flow forecast, and implementing good daily cash flow management habits can help you achieve healthy and consistent cash flow.

Cash flow forecasting is typically done for a 12-24 month period, and it links up with your business’s budget. The idea of a cash flow forecast is to provide a sound indication of what we might expect the bank cash balance to be at a point in the future. This can be incredibly helpful for navigating slower periods or making informed decisions, particularly if looking to scale a business. Cash flow forecasting allows for timely planning around larger cash payments such as income tax bills, hiring employees or contractors or asset purchases.

Good daily cash flow management habits will involve retaining and setting aside a portion of funds received. Creating these habits can be a bit like training a muscle we haven’t used for a while — it may take some getting used to, but you’ll soon start to notice the benefit of doing so.

For example, Bob Jones just paid you $10,000. To make sure your business has enough to pay employees, superannuation, GST and income tax, set aside a portion of this cash receipt into separate bank accounts. How much to set aside will depend on the unique requirements and size of your business. You can even automate so you never need to give it a second thought. These principles apply to individuals as well to help build reserves for a rainy day (or that 1-month holiday to Hawaii).

If your cash flow is a bit of a squeeze, it’s not quite matching the net profit figure in your P&L statement, or you simply want to know how to implement best practice for the future — it’s a good idea to firstly review your day-to-day practices and see if there are areas that could be more aligned with the above information.

Otherwise, consider contacting your accountant to see if they can provide some insight and hot tips to assist.


Holly Shoebridge is a certified public practitioner of CPA Australia, an ASIC agent, a registered BAS agent, tax agent in training, Xero partner & Quickbooks advisor. She has more than 15 years’ experience providing accounting, bookkeeping and tax services to a range of clients.  But Holly is not your typical accountant. She also holds a Diploma of Counselling, is a Lifeline Telephone Crisis Supporter, a volunteer primary school ethics teacher and a quirky creative, who has previously owned a photography and photographic art business. She considered throwing in the towel on her accounting studies and career. But then thought, why not combine her interests and professional experience to help others? This is how Oceans Accounting & Advisory came to be.

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