Accounting For Dummies®, 4th Edition

16.3. Distinguish Profit from Cash Flow

To find out whether you made a profit or had a loss for the year, you look at the bottom line in your P&L report. But you must understand that the bottom line does not tell you cash flow from your profit-making activities. Profit does not equal cash flow. Don't ever assume that making profit increases cash the same amount. Making such an assumption reveals that you're a rank amateur. Cash flow can be considerably higher than bottom-line profit, or considerably lower. Cash flow can be negative even when you earn a profit, and cash flow can be positive even when you have a loss. There's no natural correlation between profit and cash flow. If I know one of the numbers, I don't have a clue about the other.

Figure 16-1 shows an example I designed to illustrate the differences between sales revenue and expenses (the accounting numbers used to measure profit) and the cash flows of the sales and expenses. Only three expenses are shown: cost of goods sold, depreciation, and one total amount for all other expenses. (Note: Reporting expenses this way is not adequate for managers in a P&L report and is not acceptable for income statements in an external financial report.)

Figure 16.1. Comparing sales and expenses and their cash flows.

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