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Profit Vs Cash Flow | Hire A CFO Edmonton


Hi and welcome to another edition of ask for all CPA. Today we are talking about profit versus cashflow. I Have Laura here with me again. So, uh, Laura Wha what course are you working on right now and

in pursuing your degree? Income tax fundamentals. Why is it important to Hire A CFO Edmonton?  That’s a big one. Yup. Fence management, accounting,

management, accounting, Solos. Those brings up back great memories for me. So, um, so the, you know, the, the court we have to, that applies to, you know, profit versus cashflows from Warren Buffet. You know, accounting is the language of business. So the system that we’re always, you know, fighting against here is 50% of all Canadian small businesses fail in five years. And you know, one of the biggest reasons, one, the three main reasons for that failure is they run out of cash. And the story that we have is we have business owners and they just, they don’t, they see that there’s income in their business sometimes. Um, but they don’t understand how that income doesn’t always affect their cash balance, the balance in their bank account as they’d expect. So Laura, what are the questions that you think that these business owners need? Yeah.

To be asking. All right, well the first question is revenue added to the income statement at invoice or at date of payment?

Yeah, so that’s the key is they sent out all these invoices and those invoices, bill hit the income statement as soon as the invoice, they put him in there quick book software and it shows, you know, that’s showing up as a revenue and it’s showing up as income on the profit and loss statement. And the business owner looks at that and they say, okay, I have this revenue. All right, I have this net income. Why is my bank balance worse than it was last month? Well, the thing is is that, you know, we haven’t gotten paid for it yet, so we’re going to get, we’re going to see it hit the income statement before we get paid for it. So it’s, it’s just an Ar, it’s just a receivable. It’s showing up on the income side. You didn’t make any income statement look great, but we don’t have the cash for it. Yeah, we haven’t received it.

Yeah. Number two, how can a sudden increase in revenue please strain on cash flow.

So sometimes what can happen is once they overcome this, uh, this kind of revenue inertia sorta speak, I’m going, I’m going to call it where we have the invoice date, and then say the invoice happens in month one and then the collection happens in month two and they catch up to that. You should look for a time to Hire A CFO EdmontonHire A CFO Edmonton. So they, they’ve managed to overcome those expenses where there’s the timing difference where they have the expenses a month, month, but the revenue doesn’t come into month two and everything is, you know, clicking along with them once they can overcome that inertia. But then all of a sudden what happens, let’s call it, and only month four, they have a big increase in revenue. So now their revenue has gone up. So again, this is revenue that’s not yet collected. It’s not going to come until month five for example. But usually what happens in month four is the expenses also go up. So they had enough cash. But could you cover that consistent level of expenses and then they have a big good month where they generate a bunch of new revenue and they also have, you know, new expenses which occur right away. But the new revenue, you know, what her, you know, it gets collected at a later date so that spike in revenue can cause a cash shortfall. And a lot of business owners, they don’t, aren’t quite prepared for that.


Number three, when you use cash to buy assets, is your profit and loss statement affected?

Um, yeah, for sure. So I mean that’s the other thing is all we, we, we made some money and where we’re, you know, we’re, we’re clicking along and we see a profit on that profit and loss statement. But we’ve turned around and we bought a bunch of new computer equipment or we bought a, uh, a truck, uh, you know, uh, another, another piece of equipment. When working with equitment you should Hire A CFO Edmonton to help you. We’ve done some leasehold improvements. So now that cash, you know, that expenditure, it’s an asset purchase. It’s, it’s, you know, it’s on the balance sheet. It’s not showing on as an expense on the income statement because it’s an asset that’s going to be around and expensed over time. Um, you know, that’s, that has come out of cash. So it’s come out of your bank, you’ve, you know, you’ve written the check, it’s come out of your bank account. Um, the expense doesn’t show up on the income statement right away. Um, so it’s, you know, it’s decreasing the cash that’s available in the business whenever you purchase that asset.

Number four, what happens to your cash balance when you pay off tables and credit card?

Yeah. So you got that business and all of a sudden they’re, you know, they, they generate some profits. So in the first month they have, you know, if they have all these expenses and they can’t pay them right away, so they have accounts payable and they have some credit card balances. And then the next month they actually collect the cash flow. But then as soon as they collected it goes just to pay off the bills. So w you know, paying off those payables and paying off those credit cards. Know that’s not on the income statement. It goes on the income statement when the expense was incurred with was it occurred or the revenue was actually booked as an invoice, you know, but the payment, you know, can be at a subsequent periods. Payments can be confusing. Hire A CFO Edmonton to help you out. So, you know, once we pay down those credit cards or pay down the, um, you know, the payables were expecting cash balance to go down, all things be equal.

Number five, how do shareholder loans affect cash flow?

So then there’s another thing where, you know, the, the money that the shareholder is taking out of the businesses normally being processed through Cheryl the loan, which is good because we want to, you know, wait until year end to decide, you know, what’s the efficient makeup of salary and dividends and you know, if it’s, you know, dividends never do appear on the income statement. So, you know, we have this profit, but that’s usually the profit that you know, is made before the business owner pays themselves. So if the business is making, you know, $6,000 a month, but the owner is taking $8,000 a month, we have a cash flow problem. Um, we have to realize that normally looking at a profit and loss statement on an interim basis and that profit and loss has to be at least higher than what the owner needs to draw each and every month.


Number six, does the principle portion of loan payments show up on the income statement?

So there’s another one, just like, you know, paying the owner through the Cheryl along the principle portion of the loan. It does not appear on the income statement. Only the interest does. So we have a say a $2,000 loan payment every month and you know, 300 bucks of it is interest and the rest is the principle that $1,700 doesn’t show up on the income statement. So you get a business that has a profit of $1,700 for example, the cashflow would not go up. We wouldn’t have any extra money in the bank because we’ve used all the profits to pay off the loan balance. So, which is, you know, reduce the liability. That payment of a principle balance does not show on the income statement. So any, any payments on the loan balances are, are going to decrease cash.


Why should profits be at least as high as shareholder draws and home peanuts?

Yeah, so usually that’s the exercises you have to understand in a business. You know, what all those recurring draws at the owners taking, you know, what did they need to take over the business each and every month? What payments do they need to make on the loans? Or sometimes there’s capital leases, a longterm leases that they have. And we have to know the owner needs $5,000 a month. Business loans are confusing sometimes, Hire A CFO Edmonton if you have any questions. The, uh, loan principle loan payments are 2000 and then the longterm lease, the capital leases that don’t appear on the income statement, they’re $1,000 a month. So we have $8,000. So what we have to know is that that profit and loss, we need to see an $8,000 profit and loss every month just to keep the cash consistent. If we only generate 6,000 in profit and loss, once we paid the owner made those principle loan payments were down by two.

Um, whereas you know, on the, you know, conversely if we make 10 we didn’t add 10 we’re only going to add the difference between the eight and the 10 so we’re just going to add 2000 in cash. So they have to understand, you know, on a longterm basis, you know, month to month payables and credit card balances can fluctuate a little bit. The lumped her, what are those principle loan payments or do those longterm lease payments that don’t show on the income statement and more of the loan need to take out every month and you get to that number and we need to shoot for, we need to have that profit at least that high every month or roast. We have a, we have a cash shortfall in the cash and deficit every month.


Why is it important to build early and fail often?

So you get these, when we talked about, you know, we, we have the revenue booked in month one and then the collection a month to let’s take a lot of these projects and you know, sometimes your billing big customers and these customers have hip, 60 day payment terms or even even 45 day payment terms and maybe they have 90 day payment terms. So you get onto that site and you start working, let’s say it’s 60 day payment terms. So what can happen is you know, you, you think I’m going to bill at the end of the month and then the end of the month turns into 45 days later because you get busy, you don’t send your bill out. Now all of a sudden instead of it being 60 days, it’s now, you know, it’s 60 days from the date of the bill. So if it’s 60 days to pay and you were intended to do at 30 days in and you’ve got a little busy, you didn’t do it to 45 days and now we’re, we’re talking about 105 days from what you got on that job.

Do you see your first ad onto cashflow? So the, the real key is, is, you know, what is the earliest time that I can bill and essentially not upset my customer. Um, and then every increment after that bill as often as possible. You know, why bill every month when you can bill every week? You know, because even if, if we’re expecting it to be, you know, 60 days, if we bill every week, all of a sudden, 60 days later, we have cash coming in every week instead of you doing that, we’re waiting. Yeah, 60 days. And it came in once in the month and another six another 30 days. He came in once. Where if we bill early and bill often at 60 days, is it, the clock starts sooner and every subsequent payment is going to occur. It at a, you know, I better velocity is going to be closer together.

That’s gonna alleviate the cashflow concerns for sure. Why do you want shorter payment terms from customers and longer? So let’s say you’re trying to shoe shoestring this business and you’re, um, you’re, you’re, you’re a construction guy. For example, you’re a general contractor and let’s say this project is bigger. You know, you’re used to doing these projects. Um, you know, you’re doing half a million dollars in revenue a year and now you’ve got this $2 million project. Um, and you know that this $2 million project is 10 months long and there’s $200,000 worth of expenses every month. Those trades guys are going to come calling for their money. So and so, but if you can arrange it, you know, you don’t have $200,000 sitting in the bank to, to float the cash flow of this till the end. So what you can do is let’s say you get that customer and you say, Hey look, I can do this job and we were successful in the bid, but our terms are, we need to be able to bill within two weeks.

I have a 14 day payment terms from the time that I invoice you, you’re going to be invoiced to them early. Um, from the time that we invoice you, you need to pay us within 14 days. And then you arrange with your suppliers. So your sub trades and you just say just a little bit of a movement. You normally their net 30 and you say, Hey, it’s, it’s net 45 on this project. You’ve just bought yourself 30 days and buffer so you can effectively, you know, so lots of times you can do a project and you’re not even really going to, you know, require that cashflow if you’re super disciplined on that. And you know, assuming the customer pays, but you can just, you know, finance that project from a, from a shoestring. Whereas if the customer has 45 days to pay and the trades are expecting their money 15 days and you don’t have any money to pay them, so if you can arrange it, the customer has to pay you quicker within 14 days and you have 45 days to pay your suppliers.

You have your money in hand before you ever have to, you know, and some, some buffer time where you can go after your customer and say you’re a little bit late. You know, you don’t want to cut that window of short. You know, I would say if it’s 14 days on one end and 30 days on the other end, it’s really easy to go over that 14 days. And there can be a number of things that that have to happen. There may be a conveyancer, it doesn’t give you the, the right report, but um, no, that would be my goal is you get that two week in that 45 days and you know, you’re not moving mountains to get those who are just moving incrementally and you could really sell finance projects like that.


How can a longer loan amortization period reduce the strain on cash flow? Longer loans are though sometimes.  Hire A CFO Edmonton for more information on long loans. So, uh, you know, often people are really concerned about an interest rate alone, but what there should be maybe a little bit more concerned about is the amortization period. You know, let’s say we have $100,000 loan and we have five years to pay it off. You know, maybe they’re roughly not considering the amortization and interest. We’re looking at, you know, $20,000 a year in principal payments every year. If we have 10, if we have a 10 year term, we only have, you know, we have 10,000 of principal payments. So we’ve cut our principal payments in half, we’ve cut the strain on our cashflow and half. Even if that loan is maybe a half a percentage point higher, no, that’s a much easier pill to swallow. It’s going to pro provide much less strain on your cashflow. So it’s, it’s not just interesting that you consider it should always be a consideration. But I would argue that often the amortization period, the length of time you have to pay it back is probably more important.

How does a long cutoff processing period for neural health. So the, when you look at the cutoff from payroll, you know what can happen is we were saying we declined sometimes when they come in and say my cutoff is on Wednesday and I pay them on Friday. That provides a huge strain, not only just administratively and logistically and, and going through the payroll and processing it and making sure the right people look at it and have a chance to, you know, putting the inputs. We don’t pay the wrong person, they’re calling them out. Um, but also just even if we eliminated all those risks, the cash, we have to have the cash in by, you know, it collected by Wednesdays, hit the bank and clear the bank. Sometimes they catch will hit the bank and the bank is not ready to release the funds until it sat there for a bit.

So, and then we’ve got to pay them on Friday. So often, you know, we’re, we’re drawing our own cash. The business owner is drawing on their own calf resources to try to make that payroll. Whereas that same business owner, if they have a week on a lead time, so they have a, you know, cutoff on Wednesday and they pay them the following Wednesday, they have a lot more time to, you know, collect from the customer and me to make sure payments clear the bank and it’s a scream or provide a lot, um, a lot less strain on the cashflow. So, so that’s what we, uh, we have for you here today. I don’t think so much for tuning in you and encourage you to hit the like and subscribe button for more tips on, on how to beat the odds of business. And, uh, if you have any questions that you’d like answered, you’ll please leave them in the comments below and we’ll address them in a future video. Thanks very much.