With cash being ubiquitous, it is surprising that few people, other than those in finance and accounting, know much, if anything, about cash flows and the statement of cash position. When running a business, this statement is at least as important as your income statement because it allows you to know where your cash is coming from, where it is going and if you have enough of it.
There's a paradox many people do not understand -- a profitable company can go broke for lack of cash. At times, a sudden success kills the company. Simply put, it was profitable but didn't have the cash to pay its rent.
Several things can cause a cash shortfall for a profitable company. Its accounts receivable or inventory could be increasing faster than cash receipts. If a company makes a sale but it takes 90 days to receive payment, it could show a book profit on the sale, but would receive no cash for 90 days. So where does it get the cash to pay its rent and light bill? No cash equals no rent or electric payments, and that means going out of business.
The simplest overview is that your cash flow nets the cash (not sales) you generate minus the cash you spend. Your pro formas should absolutely track cash position. If you see a negative number approaching, you know that your company is in trouble, and you'd better take action.
For a start-up, the statement of cash position is vital to determine how much money you need to raise. I have heard so many times, "We need to raise between $3 million and $5 million." That essentially means that entrepreneurs don't know what they need. If they raise too little, they will go broke. If they raise more than they need, they will have sold more of their equity or gone deeper into debt than was necessary.
Make certain you understand your cash flows and that you prepare a very realistic statement of cash position. The viability of your company depends upon it. ERWIN BRUDER (firstname.lastname@example.org) is president of The Gordian Organization. Reach him at (216) 292-2271.