What is the best way to behave? Is it better to look at profits? Or is it better to leave all the money in the company account so that the business can expand? We came to make order in the rush and explain some main concepts.
We will first explain in a rougher way and then we will go into the details. There are several indications to understand whether a business is profitable and healthy, two of which are cash flow or in other words liquidity in the business and freedom of activity in the business, as opposed to profitability which is basically the clean money left over after all the expenses.
We will divide the cash flow into three categories
Liquid cash flow
In a large and functional business, there is a liquid pool of money. As the size of the business's savings so does its space of movement. In a business with large savings it is possible to make decisions and financial measures while knowing that there is a basis for the business and safe coverage of the business expenses like salaries, suppliers or various other expenses. The business can function on a regular basis without waiting for revenue to pay off debts.
There is also no need to exaggerate savings since, if the savings prevent the business from taking an important step that will help it develop, we have not achieved the goal.
Operating cash flow
Operating cash flow is a general name for the cash flow that comes in from the day-to-day operations of the business such as the sale of services or products. Businesses with active operating cash flow, meaning businesses with a rapid turnover of funds tend to be more profitable and less independent relying on external cash flow that comes from donations or loans. Businesses with a frequent turnover of funds due to many sales, will be better established and less dependent.
Positive or negative cash flow
In other words this flow can be called a balance. In a business it is very important that we be in control of where the money goes, when more money goes out than goes in we are in deficit and when more money goes in we can increase cash flow and profitability.
What is profitability?
Profitability is the ability of a business to reach a sales turnover that exceeds the annual expenses. It is important not to be confused with cash flow, it does not matter how much money goes in or out of the business, profitability is the money left over after all the expenses.
The net income of a business is the annual turnover that the business earned during the year less all expenses including rent, loans, employees, suppliers, taxes or anything that costs the business money.