Page 95 - Finance for Non-Financial Managers

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Finance for Non-Financial Managers
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method you use, you’ll keep in mind the importance of looking
at the other method in some fashion, so you can get the benefit
of the management information that awaits you there.
So let’s take a closer look at some of the things that Wonder
Widget management overlooked. In the process, you might see
how your own company’s team might use its financial reports
more effectively. For the sake of clarity, we’re going to assume
that your records are kept on the accrual basis of accounting,
reflecting transactions when they actually happen, as discussed
in Chapters 3 and 4.
Net Profit vs. Net Cash Flow in Your Financial Reports
So, how does bottom-line profit differ from cash flow, exactly?
Or, more specifically, how do individual transactions affect your
company’s reported profits and cash flow differently? Anyone
who has compared income statements and bank statements
knows that profit never makes its way to the bank account in
exactly the same amount that appeared on the income state-
ments. That difference is primarily the result of four kinds of
transactions that we’ll examine in the following paragraphs:

• Transactions that increase profits but don’t produce cash
until later
• Transactions that decrease profits but don’t reduce cash
until later
• Transactions that put cash in the bank first but don’t help
your profits until later—if at all
• Transactions that take cash but may or may not affect
profits later

Let’s look at each of these in turn.
Type 1. Transactions That Increase Profits but Don’t Produce
Cash Until Later
This is perhaps the largest and most obvious example of the dif-
ference we are talking about—and the most significant item in
this group is accounts receivable. Consider the following example.