Profit versus cash flow: why the bank balance tells a different story
Suppose your monthly report shows 6,000 of profit, but the bank balance does not look like a business that just made money. Both can be right. Under accrual accounting, profit counts revenue when it is earned and costs when they are incurred, while the bank records money when it moves. To see what happened, split the change in cash into trading, spending on assets and financing.
Confirm what each number covers
First confirm the profit report's accounting basis, entity and period. If it uses accrual accounting, it counts revenue when earned and costs when incurred, so it can differ from the cash that moved even when nothing is wrong. Compare it with the change in cash for the same entity and dates; a bank balance checked today is not last month's closing cash. Owner drawings move cash without touching profit. A transfer between two business accounts changes each account's balance, but if both are included in your cash figure, the total does not change.
A month where profit and cash part ways
This hypothetical, simplified example uses generic currency units and accrual accounting, with no opening receivables or payables, and leaves out tax and inventory. The business earns 20,000 of revenue but collects only 12,000. It incurs and pays 13,000 of operating costs, records 1,000 of depreciation, buys equipment for 5,000 and draws down a 10,000 loan.
| Item | Profit effect | Cash effect |
|---|---|---|
| Revenue earned / customer receipts | 20,000 | 12,000 |
| Operating costs incurred and paid | (13,000) | (13,000) |
| Depreciation | (1,000) | 0 |
| Operating result / operating cash movement | 6,000 | (1,000) |
| Equipment bought for cash | Not expensed in full in this example | (5,000) |
| Loan proceeds received | Not trading revenue | 10,000 |
| Total cash movement | Not a profit subtotal | 4,000 |
Where the difference comes from
Start from the 6,000 profit. Depreciation reduced profit by 1,000 but no cash left the business, so add it back. Customers still owe 8,000 of the revenue counted in profit, so subtract that increase in receivables. The result is an operating cash outflow of 1,000: trading used cash in a profitable month.
The equipment took a further 5,000 and the loan brought in 10,000, so the bank finished 4,000 higher. Without the loan, cash would have fallen by 6,000. The loan will also need repaying, which shows up later as cash going out.
The IFRS Foundation's overview of IAS 7 describes this indirect method: start from profit or loss, adjust for non-cash items and timing effects, and report operating, investing and financing cash flows separately. The table above is an explanatory illustration, not a compliant cash-flow statement. For entities reporting under IFRS, IFRS 18 changes the subtotal this reconciliation starts from and the classification of interest and dividends once it applies to them.
Sources and context, checked :
What to ask before judging the month
One negative operating month does not prove the business is losing money or cannot last. It does tell you where to look.
- Who is collecting the 8,000, and when is each invoice expected?
- Is the gap a one-off, such as a large job invoiced at month end, or a pattern of customers paying later?
- When do loan repayments start, and will trading generate enough cash to cover them?
- Did owner funding or transfers between accounts move the bank balance?
Your next monthly review
When the next report arrives, write three numbers beside the profit figure: operating cash flow, cash spent on assets, and cash from loans or owner funding. If operating cash is negative, identify which operating balances or payments explain it, such as receivables, inventory or supplier payments. Where unpaid invoices are part of the gap, list their expected collection dates and give that list to whoever chases payment.