What’s the difference between cash and profits? You are an ambitious entrepreneur with a great business idea in your hands. You have done all the research, scanned through the markets, and analyzed the competitors.
You’ve also brought together a team, organized your plans, and are ready to embark on a journey of making your dream a reality.
What about the money? Have you thought about where to fund your startup? Do you have the cash to transform this idea into a reality?
This is where angel investors, and eventually VCs and other strategic funds come in. You need these investors to pitch in the extra funds needed to pursue your business plans.
So, where do you start? It all begins with a compelling and impressive pitch deck. In our previous series of articles, we have discussed many different guidelines and components of creating an effective pitch deck.
In this article, we will be talking about one of the most important and essential parts of any start-up pitch deck or business plan. The financial forecasts.
More specifically we will be highlighting the difference between profits and cash and its importance in assessing a company’s financial health.
The Ultimate Guide To Pitch Decks
Importance of Financial Projections in Pitch Decks
Financial projections and details are among the staple and most necessary elements of a pitch deck for startup fundraising.
Both investors and entrepreneurs themselves need to have a clear comprehension and picture of the financial forecasting and positioning of the proposed company.
It doesn’t matter what type of pitch deck you are crafting, there MUST BE some basic financial projections to validate and support your business’s prospective success claims.
Adding financial projections in your pitch decks helps highlight matters like:
- Will the business earn any profits?
- Is the idea worth investing in?
- Sales and profit forecasts
- Expenses that will be incurred
- Will the profitability be sustainable in the long run?
- What will be the Return on Investment?
- Funding need breakdowns
- Break-even point and time
In general, a pitch deck of any start-up business should have at least financial forecasts of the first 12 months in terms of expense statement, income statement, cash flow statement, sales targets, and projections, number of customers, and growth goals.
Keep in mind that in fundraising storytelling is everything. In this regard for a winning pitch deck to help you here, take a look at the template created by Silicon Valley legend, Peter Thiel (see it here) that I recently covered. Thiel was the first angel investor in Facebook with a $500K check that turned into more than $1 billion in cash.
Remember to unlock the pitch deck template that is being used by founders around the world to raise millions below.
Importance of Understanding the Difference Between Profit And Cash
Profit and cash flows are two very important financial metrics in any business setup. They are essential to gauge the overall financial health of any company, no matter whether it is new or existing.
Although very commonly used in the world of finance and accounting, many people still confuse the two as the same thing. In reality, cash and profit are two different financial figures.
For any decision-maker, be it the entrepreneur or the investor, having a clear understanding of the two, is vital.
An investor who knows this difference can easily gauge whether a start-up is profitable for investment and to what extent it can remain solvent, or offer positive liquidation potential in times of financial crisis.
Entrepreneurs and startup founders who have clarity of these two concepts can make well-informed decisions to enhance their business growth and success.
Why Are Profit and Cash Metrics Essential in Pitch Decks
It would not be totally wrong to say that most startup businesses fail to produce significant profit in the first few months and even years, in some cases.
However, that does not mean that they would not attract any investors. Experienced investors with the necessary financial know-how gauge a startup’s potential by looking at a variety of financial indicators including profit and cash.
So, let us look at the key differences between the two concepts and bring more clarity to our thought process.
Differences Between Profit and Cash Explained
What is Cash or Cash Flow in Business?
Cash is the physical money moving in and out of a business to run its daily operations. Cash flow refers to the amount of cash available to the business at any point in time. It is the difference between the cash flowing in and cash flowing out of the company.
This figure can be negative as well as positive.
Positive cash flow is an indication that money flowing in is more than money flowing out.
Negative cash flow means more money is moving out of the company than what is coming in.
Cash is an essential component of all business activities. It is constantly moving between various stakeholders to run the regular affairs of the business.
For example, when a company will buy inventory, cash will move out. When the company will sell something to its clients, cash will move in. Cash flows are further classified into various categories
Operating Cash Flow
This is the amount of net cash that a company generates from its core business activities. A positive operating cash flow is a promising indicator for growth and expansion in companies.
Investing Cash Flow
This is the amount of net cash that a company generates from its allied investment activities. This may include securities investment and purchase or sale of physical or fixed assets.
Financing Cash Flow
This is the amount of net cash that a company receives from investors and debtors or gives to creditors. It includes debt, equity, and payment of dividends to shareholders.
Remember that understanding the difference between cash and profits is critical for running a successful enterprise.
Cash Flow Statement
The cash flow statement is an essential financial and accounting document created in almost every business entity in the world. It is a mandatory reporting document that provides a detailed overview of cash movements in and out of a company during a specific time period.
It clearly highlights all the accounting or financial heads where cash is received or dispersed for business-related activities.
The reconciliation between the beginning and ending balance helps in ensuring financial transparency and accuracy of cash reporting.
What is Profit or Profitability in a Startup Business?
It is the difference between the balance of the revenues from sales and services, and the operating expenses incurred during the same period. It is a figure that is kept in the accounting books when expenditures are deducted from the proceeds.
Profits can be dispersed to the owners or given out as dividends to shareholders. It can also be invested back into the company for growth and expansion.
Profit can also be a negative or positive figure.
A positive profit means that your revenues were more than your expenditures.
A negative profit is called a loss. It reflects that expenses were more than the earnings. This means that the operations of the business incurred more expenses than the revenues that were earned from those operations.
Profits can be classified into various categories:
This is an accounting figure that refers to the number that comes after subtracting the cost of goods sold from the revenues. This cost of goods sold will include all the variable costs incurred in manufacturing the product or executing the service.
Cost of materials, labor costs, and any other will be included in this expense figure.
Fixed asset costs and overhead salaries will not be included.
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This accounting figure refers to the number that comes after subtracting the cost of goods sold and operating overhead expenses from the revenues.
This figure reflects the profit earned from the regular business operations. It excludes interest payments and taxes.
This is the figure that is calculated after subtracting all the expenses from the revenues. This includes the cost of goods sold, operating salaries and overheads, taxes, debt payments, and any other expenditure incurred in regular operations of the business.
The Income Statement
Like the cash flow statement, the income statement too is an essential reporting document. Used for both financial and accounting matters, it is also known as the profit and loss statement.
It provides a summarized picture of the cumulative effect of the operational expenditures on the revenue earned during a given period of time.
The Critical Difference
After reading the above, you should now have some clarity about the two basic accounting concepts of cash and profits. While profits highlight the money you earned during a period of time after all the expenses have been taken out, the cash flow stipulates the exact amount of cash flowing in and out of the business.
Even as you’re trying to figure out the difference between cash and profits, you should also understand the nuances of what is a cash burn rate. Check out this video I have created explaining how that’s done. You’re sure to find it helpful.
Cash or Profit: Which Has More Importance for Startups and Pitch Decks?
Investors are always short of time. In many cases, they are looking for a single financial metric that can help them gauge the entire financial health of the proposed startup.
However, it is critical that you know how to tell the difference between cash and profits.
Who would not love to be able to look at one number and make the decision whether to invest in this company or not? Everyone would.
Of course, life is not that simple. Both cash flow and profit are two of the most critical and essential financial metrics in the business world. Related and associated with each other, neither can be considered the perfect depiction of a company’s financial health.
Both cash and profit have their own importance. Both measure different things.
Profits are a targeted goal and an indicator of the company’s operational performance. Cash on the other hand is the lifeline of the company on which all the operations are running.
It is a cyclic process where the two parameters of financial health interact and support each other. To earn profits, you need to run operations, and to run operations you need to have cash.
Cash is generated by earning profits and making operational sales. So, if you could sum it up in a narrow context, in the long run profitability is more vital, while in the short run cash is more important.
For growth-oriented companies striving to gain sustainable success, both can be equally important. At the same time, you should know the difference between cash and profits.
Cash Vs. Profits – Perspective for Startup Founders Crafting Pitch Decks
Many times we hear businesses that are profitable not being able to meet their liabilities or liquidity needs. The reason is a shortage of cash.
It is a common practice to make sales on credit and receive the money at a future time period. In the income statement, you will realize the sales, but in the cash flow statement, no cash will be realized.
There are many other similar transactions in the business world, where the profitability of a company reflects a smooth financial position but does not guarantee the presence of sufficient cash to make real-life payments.
Hence even profitable businesses might struggle to keep their day-to-day affairs going if they do not generate the cash required.
So, for making financial projections in pitch decks you need to understand that profit is a high-level way of evaluating the business performance over a period of time.
Cash flow is a temporary figure that is responsible for running the operations of the business on a daily basis.
While profitability is critical for business success, it is not the most reliable predictor of the startup’s financial ability to keep its doors open and business running.
Therefore for the best financial projections for the investor, you should not only provide estimated monthly and annual profit figures but also forecast and design the cash flow requirements in advance.
Predicting Cash Flows and Profits
While you can estimate your profits by forecasting monthly sales and expenses, for cash flows you need to identify the sources of income and when this income will come in.
Similarly, you will need to assess your payment amounts and timing and when they will move out.
Make sure to incorporate various influencing factors like operational costs of rent, taxes, salaries, seasonal and predictable fluctuations, interest payments, and repayment to investors.
For smooth business operations, you will need to have a sufficient amount of cash in hand to make necessary liability payments at specific times.
As an investor or a startup founder, you need to understand both these financial metrics and learn about the mutual interaction and impact on each other.
Adding these two parameters in pitch deck analysis is vital to assess and forecast the existing and future financial health of the proposed startup company.
It is also very important to understand that during the growth periods of a proposed company, there might be some issues in generating cash flows.
This is especially valid for high growth periods when a company has too many orders on hand without having the necessary cash to manufacture those orders.
In such cases, companies often rely on selling stocks or obtaining loans from investors. A company may still be profitable but it may be in need of cash to meet immediate needs.
Hence it is vital to understand the concept of cash versus profits for the entrepreneur crafting the pitch deck as well as the investor analyzing the startups pitch. Make the effort to learn the difference between cash and profits.
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