Paying Attention to Profit in Your Small Business
Your small business is designed to make a profit — even if you’re not making one yet. Managing the financial aspects of profit requires special skills and powers of recognition. The following list offers tips on what to pay attention to:
Cash flow accounting doesn’t tell you profit for the period, and accrual-basis profit accounting doesn’t tell you cash flow for the period. Credit sales are recorded as revenue before cash is received. Some expenses are recorded before cash is paid, and some are recorded after cash is spent. Depreciation expense is not a cash outlay in the period. Never confuse profit and cash flow. You need to look at your P&L report for your profit, and you need to look at your Statement of Cash Flows for your cash flow.
Read the preceding tip again! Deep down in your psyche you probably believe that profit equals cash flow. You may want to believe this, but it ain’t so. Make certain that you have a firm grip on what cash flow is — and isn’t.
Use a compact profit model for decision-making analysis. The P&L report is indispensable for controlling profit performance, but this profit performance report is too bulky for decision-making analysis. A compact profit model is better. The P&L statement is like a high-end digital SLR camera; a profit model is like a pocket-size digital camera that you carry around with you and is good enough for most uses.
Seemingly small changes in profit factors can cause staggering differences. A small slippage in the ratio of margin on sales revenue can have a devastating impact on profit. A slight boost in sales price or a relatively modest increase in sales volume can yield a remarkable gain in profit. Small changes mean a lot.