Cash Flow Is Different than Profit—Much Different

March 2007

A few years ago, a friend of mine who is an engineer left his corporate job and started his own company with four other engineers. They were all very smart about their product, global positioning systems, but had little experience in or knowledge of how a business works. As a matter of fact, my friend’s business title was Engineer in Charge of Finance and Administration.

Well, after much suffering, he approached me to get some help. His partners were confused and frustrated with him because they never seemed to have enough cash in the business bank account when payroll time rolled around, and they had to contribute their personal cash to cover it. They argued that they had just made a tremendous sale to the Coast Guard for over $200,000. How could they possibly be short on cash? What had my friend, the Engineer in Charge of Finance, done with the money?

After asking my friend a few questions I began to get a picture of what had happened to his cash. He was experiencing what many businesses experience when they either take their eyes off, or don’t understand, cash flow.

The reason I wrote the book The Four Principles of Happy Cash Flow is to help business owners, managers and employees understand the impact of their decisions on the lifeblood of the business—cash!

After a little coaching, my friend was able to figure out what to do and not do in his business. He began to watch cash and the things that impacted cash much more closely. He was able to explain to his partners what had happened and what would happen given any decision they made in the future.

He did so well in fact, that a competitor recently bought his company. My friend is now a millionaire living a quiet life on the Texas coast—fishing! Let’s learn how he did it and what to look out for.

Generating your own cash flow

Would you say that your business is a cash-generating machine or that it is in a cash consuming vacuum? Is your business flexible and lean or rigid and wasteful? Or is your business somewhere in-between?

Cash is the most powerful business asset you can have and there are many ways to get it. Some ways are wiser than others. You can sell a piece of your business and with it a share of profits and a share of control over your business.

Or you could get a loan. A loan obligates you to paying interest and principle on a set schedule… and you may also have to give up some control in your business.

Or you can generate cash by using my personal favorite technique—make it yourself by the wise application of four key principles.

What's so great about generating your own cash flow?

It is all about control and self-sufficiency. Think about it from a personal level—you don’t want to have to get a loan from your Aunt Harriet to pay your rent, or sell your body parts to science in order to generate cash. After a while, those resources are likely to exhaust themselves. But if you have a job or another source of income that you control, you get to say what goes. Same thing for a corporation, it is best if the company can control its own destiny.

What benefits do you derive from additional cash flow? You can:

• Pay your payroll
• Reduce your debt
• Buy back the ownership of your company from shareholders
• Take more cash home
• Take advantage of unique opportunities
• Have more business fun
• Cash flow gives you flexibility and strength

Imagine having $100,000 cash in your pocket today. You could go out and have a really good time! But, if you have that same $100,000 tied up in your house, then you should enjoy watching cable TV… because that may be all that you will be doing today.

Cash gives you the flexibility to act. If a competitor comes out with a new product or service, and they are making good money with it, you can add the product or service to your repertoire fast. If you do not have the cash, you may have to first go find someone to loan you the money or sell a piece of your business. Or, worst yet, you may have to let the opportunity go.

In most industries, change is rapid. Cash gives you the ability to flow with that change and not get stuck.

And cash gives you strength because it lets you withstand market fluctuations. As I am writing this, the economy in my hometown—Austin, Texas—is slowing. Some businesses, which were short on cash, are going under; some are laying off employees; and some are telling their employees that they can’t travel or attend training. But one of the leaders in this town, Dell Computer, is strengthening its market position because it has extra cash and its competitors don’t.

Dell Computer is one of the best managers of cash around. They are a cash-generating machine.

What Dell is able to do, that some of its competitors cannot, is withstand the slowdown in PC sales while keeping their prices consistently low. They have a huge cash reserve that they made by managing their cash and working capital well… so they can last and last while their competitors suffer. An interesting scenario.
And Dell is not the only company smart about cash flow. Wal-Mart also has a great technique for managing cash flow, as do several other businesses we will look at later.