Page 93 - Finance for Non-Financial Managers

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Finance for Non-Financial Managers
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But that’s not the point of the story, is it? The managers of
Wonder Widget had made a serious management error, in spite
of the great product, seemingly endless demand, and super prof-
it margins. And it could have cost them their company. First,
they didn’t forecast their expected cash flow needs during their
critical early months, a subject that will be discussed in some
depth in Chapter 10, The Annual Budget: Financing Your Plans.
Second, they didn’t recognize the need to track cash flow results
separately from profits.
Business Goes They looked at an income
with the Flow statement each month,
The health of a business saw that their efforts had
depends on a healthy cash flow. More produced a profit, and
businesses fail because of a lack of happily moved on.
cash than because of a lack of profits. So if cash flow is so
Cash flow is not profits; it’s all a ques- important, why doesn’t it
tion of timing. It’s essential, then, that
cash flow be properly understood and show up in the books
managed as carefully as revenue, somewhere? Or if it does,
expenses, and profits. how can we make it easier
to understand? Well, it
really does show up in the books, since every transaction involv-
ing cash is recorded somewhere. The challenge comes in putting
it into a format that’s easier to understand. (We’ll discuss the
statement of cash flow in Chapter 6.)

Cash Basis vs. Accrual Basis

As it turns out, financial reports can look quite different depend-
ing on the accounting method you use to keep your books.
There are two basic choices of accounting method, as dis-
cussed briefly in Chapter 2—cash and accrual.
The reality of small business is that many companies keep
their books on the cash basis because it’s simpler to under-
stand—sort of like running the business out of your check-
book—and because it often coincides with the way they file
their tax returns. And as long as you don’t care about the strict
definition of profits, that can work. An example might be a con-