Cash Flow, Liquidity and Working Capital
Why profitable companies run out of money: cash flow, liquidity and working capital
Why profitable companies run out of money: cash flow, liquidity and working capital 1. Introduction ÔÇô There is profit, but there is no money One of the most common and dangerous paradoxes in business is a situation in which a company makes a profit, but does not have enough money for daily operations. At first glance, …
Introduction ÔÇô There is profit, but there is no money
One of the most common and dangerous paradoxes in business is a situation in which a company makes a profit, but does not have enough money for daily operations. At first glance, it seems illogical. If the company is making money – why is there no money? The answer lies not in revenue, but in the way money functions within the firm. Profit is an accounting result Money is an operational reality
sales growth positive result stable traffic
is late with payment of obligations there are insufficient funds in the account gets into financial pressure In practice, companies fail not because they don’t have profits ÔÇö but because they don’t have money at the right time.
- A company may have:
- and at the same time:
- ´ŞĆ The biggest mistake is to look at profit as an indicator of security. Money, not profit, determines the survival of the company.
Cash flow – how money really comes in and out
Cash flow represents the movement of money through the company in a certain period. It answers the key question: how much money comes in and how much goes out inflow collection from customers loans investments outflow suppliers salaries taxes loan installments operating costs A key difference
cash flow does not show what was earned but what was actually charged and paid Three types of cash flow
- Unlike the income statement:
Operating cash flowMoney from core business – the most important indicator
1. Operating cash flowMoney from core business – the most important indicator
Investment cash flow Investments in equipment and development
2. Investment cash flow Investments in equipment and development
Financial cash flowCredits and financing
Key insight A company can have a profit and a negative cash flow. An example Sale: ÔéČ100,000 Profit: ÔéČ30,000 Billed: ÔéČ40,000 The company is profitable, but there is not enough money
- ´ŞĆ It is a mistake to manage a company based on profit. Cash flow shows the real situation.
Liquidity – whether the company can survive in the short term
Liquidity represents the company’s ability to pay its obligations on time. Key question: Can the company pay what is due soon? What goes into liquidity
cash funds in the account receivables Current ratio Formula: Current assets / Short-term liabilities < 1 Ôćĺ problem 1ÔÇô2 Ôćĺ stable 2 Ôćĺ possibly ineffective Quick ratio Formula: (Current assets – inventories) / short-term liabilities a more realistic indicator because stocks are not immediately money Key insight A company can have "good" assets, but poor liquidity. Warning signals delay in payments supplier pressure lack of cash dependence on credit
- Responsibilities:
- Liquid assets:
- ´ŞĆ It is a mistake to react only when the money disappears. Liquidity is monitored in advance.
Working capital ÔÇô where money is trapped
Working capital shows how money is distributed within day-to-day operations. Formula: Working capital = Current assets – Current liabilities Three key components
Stocks money tied up in goods
1. Stocks money tied up in goods
Receivables money that has not yet been collected
2. Receivables money that has not yet been collected
Liabilities deferred payment (source of financing)
Key insight Working capital shows where the money is “locked”. Why growth is a problem
increases inventory gives longer terms to customers payment is late money is not returned fast enough The result increased need for money pressure on liquidity dependence on funding
- The company is growing and:
- ´ŞĆ It is a mistake to think that growth solves problems. Growth often increases the need for money.
How the problem arises in practice
Sales are increasing Stocks are rising Customers are late Suppliers request payment money goes out before it comes in The result negative cash flow drop in liquidity financial pressure This is the most common real problem in companies.
- A typical scenario:
How to solve the problem – a practical approach
6. How to solve the problem – a practical approach
Move from reading to action
Use the related tool with disciplined inputs, then connect the insight to your monthly review rhythm.
FAQ
If the company is making money – why is there no money?
The answer lies not in revenue, but in the way money functions within the firm.
How should I use this guide in practice?
Use it as a checklist during your monthly close: validate inputs, interpret the result in business context, then link the outcome to pricing, cash flow, or capital decisions.
What is the biggest mistake owners make here?
Reading one indicator in isolation instead of connecting profitability, liquidity, leverage, and operational reality.