Cash flow and profit are essential financial metrics in business. Yet, it isn’t uncommon for those new to finance and accounting to occasionally confuse the two terms. Cash flow and profit aren't the same things, and it’s critical to understand the difference between them to make key decisions regarding a business’s performance and financial health.
For investors, understanding the difference between profit and cash flow makes it easier to know whether a profitable company is a good, long-term investment based on its ability to remain solvent in times of economic crisis. For entrepreneurs and business owners, understanding the relationship between the terms can inform important business decisions, including the best way to pursue growth.
Here’s everything you need to know about cash flow, profit, and the difference between the two concepts.
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DOWNLOAD NOWWhat is Cash Flow?
Cash flow refers to the net balance of cash moving into and out of a business at a specific point in time.
Cash is constantly moving into and out of a business. For example, when a retailer purchases inventory, money flows out of the business toward its suppliers. When that same retailer sells something from its inventory, cash flows into the business from its customers. Paying workers or utility bills represents cash flowing out of the business toward its debtors. While collecting a monthly installment on a customer purchase financed 18 months ago shows cash flowing into the business. The list goes on.
Cash flow can be positive or negative. Positive cash flow means a company has more money moving into it than out of it. Negative cash flow indicates a company has more money moving out of it than into it.
Types of Cash Flow
- Operating cash flow: This refers to the net cash generated from a company’s normal business operations. In actively growing and expanding companies, positive cash flow is required to maintain business growth.
- Investing cash flow: This refers to the net cash generated from a company’s investment-related activities, such as investments in securities, the purchase of physical assets like equipment or property, or the sale of assets. In healthy companies that are actively investing in their businesses, this number will often be in the negative.
- Financing cash flow: This refers specifically to how cash moves between a company and its investors, owners, or creditors. It’s the net cash generated to finance the company and may include debt, equity, and dividend payments.
Related: Financial Terminology: 20 Financial Terms to Know
The Cash Flow Statement
Cash flow is typically reported in the cash flow statement, a financial document designed to provide a detailed analysis of what happened to a business’s cash during a specified period of time. The document shows different areas where a company used or received cash and reconciles the beginning and ending cash balances.
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What Is Profit?
Profit is typically defined as the balance that remains when all of a business’s operating expenses are subtracted from its revenues. It’s what's left when the books are balanced and expenses are subtracted from proceeds.
Profit can either be distributed to the owners and shareholders of the company, often in the form of dividend payments, or reinvested back into the company. Profits might, for example, be used to purchase new inventory for a business to sell, or used to finance research and development (R&D) of new products or services.
Like cash flow, profit can be depicted as a positive or negative number. When this calculation results in a negative number, it’s typically referred to as a loss, because the company spent more money operating than it was able to recoup from those operations.
Types of Profit
- Gross profit: Gross profit is defined as revenue minus the cost of goods sold. It includes variable costs, which are dependent upon the level of output, such as cost of materials and labor directly associated with producing the product. It doesn’t include other fixed costs, which a company must pay regardless of output, such as rent and the salary of individuals not involved in producing a product.
- Operating profit: Like operating cash flow, operating profit refers only to the net profit that a company generates from its normal business operations. It typically excludes negative cash flows like tax payments or interest payments on debt. Similarly, it excludes positive cash flows from areas outside of the core business. It’s sometimes referred to as earnings before interest and tax (EBIT).
- Net profit: This is the net income after all expenses have been deducted from all revenues. Typically, this includes expenses like tax and interest payments.
The Income Statement
Information about a company’s profits is typically communicated in its income statement, also known as a profit and loss statement (P&L). This statement summarizes the cumulative impact of revenue, gains, expenses, and losses over the course of a specified period of time.
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The Difference Between Cash Flow and Profit
The key difference between cash flow and profit is while profit indicates the amount of money left over after all expenses have been paid, cash flow indicates the net flow of cash into and out of a business.
Check out our video on the differences between cash flow and profit below, and subscribe to our YouTube channel for more explainer content!
Which Is More Important: Cash Flow or Profit?
Investors and business owners are often in search of a single metric for understanding the health of a company. They want one line item in a financial statement to determine whether they should make an investment or pivot their business strategy. In these instances, cash flow and profit are often pitted against each other. But which is more important?
There isn’t a simple answer to that question; both profit and cash flow are important in their own ways. As an investor, business owner, employee, or entrepreneur, you need to understand both metrics and how they interact with each other if you want to evaluate the financial health of a business.
For example, it’s possible for a company to be both profitable and have a negative cash flow hindering its ability to pay its expenses, expand, and grow. Similarly, it’s possible for a company with positive cash flow and increasing sales to fail to make a profit—as is the case with many startups and scaling businesses.
Profit and cash flow are just two of the dozens of financial terms, metrics, and ratios that you should be fluent in to make informed business decisions. By gaining a thorough understanding of key financial principles, it’s possible to advance professionally and become a smarter investor or business owner.
Are you interested in gaining a toolkit for making smart financial decisions and the confidence to clearly communicate those decisions to stakeholders? Explore our online finance and accounting courses and discover how you can unlock critical insights into your organization’s performance and potential. To find out which course is best for you, download our free flowchart.
This post was updated on February 2, 2023. It was originally published on April 21, 2020.
Data Tables
Company A - Statement of Cash Flows (Alternative Version)
Year Ended September 28, 2019 (In millions)
Cash and cash equivalents, beginning of the year: $10,746
OPERATING ACTIVITIES
| Activity | Amount |
|---|---|
| Net Income | 37,037 |
| Adjustments to Reconcile Net Income to Cash Generated by Operating Activities: | |
| Depreciation and Amortization | 6,757 |
| Deferred Income Tax Expense | 1,141 |
| Other | 2,253 |
| Changes in Operating Assets and Liabilities: | |
| Accounts Receivable, Net | (2,172) |
| Inventories | (973) |
| Vendor Non-Trade Receivables | 223 |
| Other Current and Non-Current Assets | 1,080 |
| Accounts Payable | 2,340 |
| Deferred Revenue | 1,459 |
| Other Current and Non-Current Liabilities | 4,521 |
| Cash Generated by Operating Activities | 53,666 |
INVESTING ACTIVITIES
| Activity | Amount |
|---|---|
| Purchases of Marketable Securities | (148,489) |
| Proceeds from Maturities of Marketable Securities | 20,317 |
| Proceeds from Sales of Marketable Securities | 104,130 |
| Payments Made in Connection with Business Acquisitions, Net of Cash Acquired | (496) |
| Payments for Acquisition of Intangible Assets | (911) |
| Other | (160) |
| Cash Used in Investing Activities | (33,774) |
FINANCING ACTIVITIES
| Activity | Amount |
|---|---|
| Dividends and Dividend Equivalent Rights Paid | (10,564) |
| Repurchase of Common Stock | (22,860) |
| Proceeds from Issuance of Long-Term Debt, Net | 16,896 |
| Other | 149 |
| Cash Used in Financing Activities | (16,379) |
Increase / Decrease in Cash and Cash Equivalents: 3,513
Cash and Cash Equivalents, End of Year: $14,259
Company B - Annual Trial Balance (Alternative Version)
September 28, 2019 (In thousands)
| Accounts | Debit | Credit |
|---|---|---|
| Cash and cash equivalents | 260,652 | |
| Accounts receivable | 467,976 | |
| Inventory | 676,089 | |
| Other current assets | 116,775 | |
| Property, plant & equipment | 985,563 | |
| Long-term intangible assets | 1,223,400 | |
| Other long-term assets | 31,093 | |
| Current portion of long-term debt | 14,689 | |
| Accounts payable | 312,170 | |
| Accrued expenses | 242,427 | |
| Other current liabilities | 27,777 | |
| Long-term debt, less current portion | 236,282 | |
| Other long-term liabilities | 281,588 | |
| Common stock | 1,392,183 | |
| Retained earnings | 771,200 | |
| Net Sales | 4,358,100 | |
| Cost of Sales | 2,738,714 | |
| Selling and operating expenses | 560,430 | |
| General and administrative expenses | 293,729 | |
| Other income | 960 | |
| Gain or loss on financial instruments, net | 5,513 | |
| Gain or loss on foreign currency, net | 12,649 | |
| Interest expense | 18,177 | |
| Income tax expense | 257,642 | |
| Total | 7,642,889 | 7,642,889 |
Company B Income Statement
For Year Ended September 28, 2019 (In thousands)
| Activity | Amount |
|---|---|
| Net Sales | 4,358,100 |
| Cost of Sales | 2,738,714 |
| Gross Profit | 1,619,386 |
| Selling and Operating Expenses | 560,430 |
| General and Administrative Expenses | 293,729 |
| Total Operating Expenses | 854,159 |
| Operating Income | 765,227 |
| Other Income | 960 |
| Gain (Loss) on Financial Instruments | 5,513 |
| (Loss) Gain on Foreign Currency | (12,649) |
| Interest Expense | (18,177) |
| Income Before Taxes | 740,874 |
| Income Tax Expense | 257,642 |
| Net Income | 483,232 |
