Guide · Management
Guide to understanding profit, cash and liquidity
Straight answer: profit measures the economic result of a period; liquidity shows the money actually available to meet commitments. A company can sell at a margin and report a profit yet run short of cash if it is paid late, builds up inventory, invests, or settles obligations before collecting from customers.
This guide is for: managers and business owners who see growth in sales or results but feel constant pressure on the bank account.
Why can a sale increase profit without increasing cash?
When a company invoices on credit, the sale is recognised but the money only arrives when the customer pays. During that interval the company may still have to cover salaries, suppliers, VAT and other expenses. The longer the collection period, the greater the need to finance the cycle.
How do purchases and inventory consume money?
Buying goods reduces liquidity at the moment of payment. The cost may only affect the result when the goods are sold. A company can therefore have money tied up in inventory without that amount appearing immediately as an expense in the income statement.
Is an investment an expense of the month?
Not always. Acquiring equipment, a vehicle or a system may mean an immediate cash outflow, while the accounting cost is spread across its useful life through depreciation. The monthly result may therefore appear less affected than the bank account.
Which taxes put pressure on liquidity?
The VAT charged to customers is not income of the company. It should be tracked separately, because it may have to be paid over to the State after deducting the recoverable tax under the applicable rules. Withholdings, contributions and payments on account also create commitments that should be anticipated before their due date.
Does taking money out of the company reduce profit?
Not every withdrawal or transfer to shareholders and managers is an expense. How the money is taken out depends on its nature — remuneration, reimbursement, distribution, loan or another movement — and must be properly documented. Unidentified movements make the financial and accounting reading less reliable.
Which indicators help you follow liquidity?
- The available bank balance and commitments falling due in the next 30, 60 and 90 days.
- Overdue customer invoices and the average collection period.
- Unpaid supplier amounts and the average payment period.
- Taxes and contributions already generated, even if not yet due.
- Inventory that is idle or slow-moving.
- Loan instalments and planned investments.
How do you build a simple forecast?
Start from the available balance, add reasonably predictable receipts and subtract payments already committed. Keep certain transactions separate from estimates. Update the forecast weekly and compare what was forecast with what actually happened.
The aim is not to produce a complex model. It is to detect in advance the periods in which the company may need to accelerate collections, negotiate terms or postpone non-essential spending.
Which questions should you ask when reviewing a month?
- Sales increased, but have the customers already paid?
- Did inventory grow faster than sales?
- Are there exceptional expenses or investments?
- Which taxes have already been generated?
- Are there personal or shareholder movements still to clarify?
- Is the margin sufficient to finance the credit terms given to customers?
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Related concepts
Profit · Treasury · Liquidity · Cash flow · Working capital · Accounts receivable · Accounts payable