If your business is profitable but the bank balance is always tight, the profit hasn’t gone missing. It has gone somewhere very specific, and your management accounts probably aren’t showing you where.
One of the questions I hear most from owner-managed businesses is: “If we’re making a profit, why is the bank account always tight?”
It’s a perfectly reasonable thing to ask. The management accounts show a profit, customers are buying, invoices are going out. And yet there is never quite as much cash as the owner expects.
Profit and cash live in different places
Profit is an accounting measure. Cash is money. They are connected, but they are not the same thing, and the profit and loss account only tells part of the story.
A great deal of cash movement happens on the balance sheet: debt repayments, stock, debtors, creditors, capital expenditure, tax and director’s loans.
Take a simple example. You make a £100,000 sale in March on 60-day payment terms. The invoice goes into the accounts straight away, and if the job was profitable, so does the profit. Excellent.
Except the customer hasn’t paid yet, and you may already have paid the wages, materials and subcontractors needed to deliver the work. The profit exists. The cash is sitting in debtors.
Stock works the same way. Spend £200,000 on inventory and it doesn’t all hit the P&L as an expense; some of it sits on the balance sheet until it’s sold. Correct accounting, but the bank account takes a different view.
You can have a healthy-looking gross margin and a warehouse full of assets while struggling to pay wages.
The profitable company nobody could explain
One of my clients (disguised here) is a small specialist services company in the construction sector, with turnover well below £1 million. On paper it was profitable. Nobody could understand where the cash was going.
The accounts weren’t wrong. They were only showing part of the story. Three things were quietly absorbing the cash:
- Asset finance. The company had bought specialist equipment on hire purchase, which made commercial sense. But only the interest on each repayment appeared in the P&L. The capital element reduced the debt on the balance sheet, yet the whole payment left the bank.
- Director’s drawings. Money drawn through the director’s loan account didn’t show up as an expense. The amount owed by the director simply grew on the balance sheet.
- Corporation Tax. The reporting showed the profit being earned, but made no meaningful provision for the tax building alongside it.
Put those together and the mystery disappeared. There wasn’t a hole in the bank account. The money had gone somewhere very specific. Management just couldn’t see it.
Then came the good news. Each hire-purchase agreement had a final payment date, so we could map when each monthly repayment would drop away. The conversation changed from “Why are we always short of cash?” to “Cash is tight for another six months, then this agreement ends and our headroom improves.” Nothing magical had happened. The business was still tight. But it now had visibility, and a difficult period with an end date can be planned around.
Four questions to ask this week
- “Of the cash in the bank today, how much is actually ours?” If £40,000 of a £150,000 balance is Corporation Tax due later, you effectively have £110,000.
- “How much cash will we need if we sell more?” Doubling turnover with the same debtor days can tie up far more money in customers.
- “When does each finance agreement end?” Knowing when repayments fall away turns an open-ended worry into a plan.
- “What is the director’s loan account doing?” If drawings are pushing it increasingly overdrawn, your finance report should show it now, not nine months later when the statutory accounts are prepared.
Look at all three statements together
A profit and loss account on its own isn’t management information. Read the P&L, the balance sheet and the cash flow side by side and the picture changes. A strong P&L with rising debtors and stock can signal cash pressure ahead. A healthy bank balance with a large VAT, PAYE or Corporation Tax liability behind it may be much less healthy than it looks. None of this is advanced finance. It’s commercial visibility.
It also changes how an owner spends their time. When you don’t understand the cash position, anxiety pulls you back into short-term activity: win another job, raise another invoice, get some money into the bank. With visibility, you get room to think about the future.
That is the idea behind my book, The Numbers Behind the Business. Every financial number has a business story behind it, and the numbers are most useful when they explain what happened to the profit, not just that you made one.
Send me a message on LinkedIn, if you would like to know when my book is launched?
