Cash flow: the bridge from profit
Introducido| English | Significado |
|---|---|
| cash flow statement | Cash movements classified as operating, investing and financing. |
| operating activities | Cash from running the business itself. |
| investing activities | Cash from buying and selling long-lived assets. |
| financing activities | Cash from raising and repaying shares and loans. |
| indirect method | indirect method |
£28,370 of profit, £51,400 more cash
- In year 1 Nimbus made £28,370 of profit, but its bank balance rose by £51,400. Neither number explains the other.
- The cash flow statement builds the bridge between them, line by line. This lesson shows how, and why a profitable firm can still run short of cash.
Three kinds of cash movement
- The cash flow statement 现金流量表 sorts every movement into three groups. Operating activities 经营活动: the bread business itself. Investing activities 投资活动: buying or selling long-lived assets such as the oven.
- Financing activities 筹资活动: money from or back to the funders, such as shares, loans and loan repayments. Year 1: investing −6,000 (the oven), financing +35,000 (shares and loan).
Operating, investing or financing?
Sort each of Nimbus's cash movements. Operating cash comes from the bread business, investing cash buys or sells long-lived assets, and financing cash comes from or goes back to the funders.
In year 2 Nimbus repays £5,000 of its bank loan. Where does this appear?
Dificultad 1/5 · 100 monedas + un pequeño bono en el primer intento de hoy
Repaying the amount borrowed is money back to a funder, so it is financing. Interest on the loan is usually shown under operating.
Why profit is not cash
- Profit is measured on the accrual basis, so it counts expenses that moved no cash and ignores cash that bought nothing used up yet.
- Depreciation of £1,080 lowered profit but no money left the bank that year. The £9,000 of prepaid rent left the bank but is not yet an expense.
Depreciation of £1,080 reduced Nimbus's bank balance by £1,080 during the year.
Dificultad 1/5 · 100 monedas + un pequeño bono en el primer intento de hoy
The cash left when the oven was bought. Depreciation spreads that cost over the years, which lowers profit but moves no cash.
Bridge rules: undo the accruals
- Start from profit. Add back expenses that moved no cash: depreciation and accrued expenses.
- Subtract growth in inventory and prepayments: cash spent on things not yet used. Add growth in payables: goods used but not yet paid for. This is the indirect method 间接法.
Payables grew by £4,000 during the year. How does this enter the bridge from profit to operating cash?
Dificultad 1/5 · 100 monedas + un pequeño bono en el primer intento de hoy
Payables growing means cash stayed in the bank. Inventory and prepayments growing do the opposite and absorb cash.
Match each change to its step on the bridge.
Dificultad 2/5 · 140 monedas + un pequeño bono en el primer intento de hoy
Each step undoes a difference between the accrual basis and the bank account.
Nimbus's bridge, year 1
| Profit to operating cash | £ |
|---|---|
| Profit | 28,370 |
| + Depreciation | 1,080 |
| + Accrued wages, electricity, interest | 1,550 |
| − Growth in inventory | (3,600) |
| − Growth in prepaid rent | (9,000) |
| + Growth in payables | 4,000 |
| Operating cash | 22,400 |
| Investing (oven) | (6,000) |
| Financing (shares and loan) | 35,000 |
| Change in cash | 51,400 |
- £51,400 is exactly the cash line in the balance sheet, so the statements agree.
Year 2: profit £30,000, depreciation £1,080, inventory grows by £1,000, money owed by cafés grows by £6,000 and payables grow by £500. What is operating cash, in £?
Dificultad 2/5 · 140 monedas + un pequeño bono en el primer intento de hoy
$30\,000 + 1\,080 - 1\,000 - 6\,000 + 500 = 24\,580$. Selling to cafés on credit holds back £6,000 of cash.
Three reasons profit and cash part ways
- Timing: cash moves before or after the expense or sale, as with the prepaid rent. Growth: more stock and more customers on credit trap cash while profit looks fine.
- Funding: shares and loans bring cash with no profit at all. Profit £28,370 against operating cash £22,400 is a £5,970 gap: $(9\,000 + 3\,600) - (1\,080 + 1\,550 + 4\,000) = 5\,970$.
Profit is £28,370 and operating cash is £22,400. What explains the £5,970 gap?
Dificultad 1/5 · 100 monedas + un pequeño bono en el primer intento de hoy
$12\,600$ of cash went into prepaid rent and stock, against $1\,080 + 1\,550 + 4\,000 = 6\,630$ added back: $12\,600 - 6\,630 = 5\,970$. The oven and the financing are outside operating cash.
Three common slips
- Adding back the whole rent payment. Only depreciation and accruals are added back; the prepayment belongs in the working-capital lines.
- Putting a loan repayment under operating. Repaying the loan is financing. Interest is usually shown under operating.
- Reading strong operating cash as proof of health. Check financing too: a firm can hold plenty of cash while its bank is asking for the loan back.
Which could leave a profitable business short of cash? Select all that apply.
Dificultad 2/5 · 140 monedas + un pequeño bono en el primer intento de hoy
Late payment and stock build-up trap cash; a loan repayment sends it back to the lender. Depreciation lowers profit but moves no cash.
Recap
- Cash flows are operating, investing or financing.
- Operating cash = profit + non-cash expenses and accruals − growth in inventory and prepayments + growth in payables.
- Timing, growth and funding explain why profit and cash differ.