Why Profit Doesn't Translate Into Cash

Date01 March 2016
DOIhttp://doi.org/10.1002/jcaf.22141
AuthorReginald Tomas Lee
Published date01 March 2016
63
© 2016 Wiley Periodicals, Inc.
Published online in Wiley Online Library (wileyonlinelibrary.com).
DOI 10.1002/jcaf.22141
f
e
a
t
u
r
e
a
r
t
i
c
l
e
Why Profit Doesn’t Translate
IntoCash
Reginald Tomas Lee
There’s a gener-
ally accepted
idea in business
that profit reflects or
represents making
money. More profit
means more money,
so there is a heavy
focus on activities
that enhance profit
to improve cash flow.
Companies spend
substantial amounts
of cash on improve-
ment programs such
as lean, SixSigma,
and the latest infor-
mation technology (IT) to
manage costs. Why? To focus
on improving profits; to make
more money. Every company
must generate cash flow to
maintain itself and to grow.
In fact, investors look at one’s
ability to generate profit as one
critical way to assess whether a
company is making money.
I’ve become a bit skepti-
cal about the relationship
between profit and cash
flow. Through my decades of
research and consulting I am
less sure that profit is truly
about making money. I’ve
runinto profitable companies
that cannot make payroll.
If profit were about making
money, these profitable com-
panies would have money. But
they don’t. The question is:
why?
I look to four areas that
explain the main reasons why
there’s a disconnect between
profit and cash flow:
1. Costs should be
about spending
money. Many costs,
however, have noth-
ing to do with money.
2. The calculation of
costs leads to inex-
act solutions, even
when modeling an
exact scenario.
3. Accruals allow you
to move account-
ing transactions
into different peri-
ods that are dif-
ferent from when
cost transactions
occurred.
4. There are disconnects
between the depreciation
of an item and the payment
schedule for the item.
There are likely others.
These are the most immediate
and obvious ones, and they
create significant challenges
for many in the business world.
Iwill discuss each in turn.
COSTS SHOULD BE ABOUT
SPENDING
The first time I started
questioning the relationship
In this article, the author suggests there is a
disconnect between profit and cash flow. Ulti-
mately, you will need to build models to help you
understand and manage cash flow. Central to this
insight will be capacity modeling. Capacity is the
largest expenditure of most companies, yet most
fail to realize and manage capacity. Most account-
ing approaches fail to accomplish this. Addition-
ally, understanding the difference between cash
outlay cost (costc
) and noncash cost (costnc ) will
be important, as only one is cash, and you cannot
add dissimilar numbers together mathematically.
© 2016 Wiley Periodicals, Inc.
Commissioned
This is the first in a series of articles
in which the author will share ideas
that will help you see you organization
much more effectively from capacity
and cash flow perspectives.

To continue reading

Request your trial

VLEX uses login cookies to provide you with a better browsing experience. If you click on 'Accept' or continue browsing this site we consider that you accept our cookie policy. ACCEPT