Our case study company showed a profit every quarter and then failed because it could not pay suppliers. If revenue exceeds costs, I do not see where the money goes.
Is this an accounting artefact, or can a genuinely profitable business really run dry?
Accepted Answer
Genuinely, and it is one of the most common ways growing companies die.
Profit is recognised when a sale is made. Cash arrives when the customer pays. If you sell in January on 90 day terms, you book profit in January and see money in April, while paying staff and suppliers every month in between.
Growth makes this worse rather than better. Each new order means buying stock and paying wages before the cash comes in, so the faster you grow the larger the hole you are funding.
That is why the cash flow statement exists as a separate document. The income statement is an opinion about timing; the cash flow statement is what actually moved.
Worth naming the specific traps, because "profit is not cash" is true and too vague to act on.
Inventory is cash converted into goods, and it does not appear as a cost until the goods are sold. Capital expenditure leaves the bank at once and hits the income statement over years as depreciation. And debt repayment is not an expense at all, so it drains cash while leaving profit untouched.
Each of those can be large enough on its own to break a profitable company, and none of them shows up on the line you were reading.
The number that captures it is the cash conversion cycle: days of inventory plus days to collect, minus days you take to pay. Positive means you are financing your customers. Supermarkets famously run it negative, which is why they can be low margin and cash rich.
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