Companies need a separate record of cash receipts and cash payments (operations, investing, financing).

• Firstly, it shows the real cash that it is available to keep the business running day to day (profits are only on paper until the money actually comes is).
• Secondly, there are many sophisticated techniques that accountants can use to manipulate profit, whereas cash is real money. It’s cash that pays the bills, not profits.

There are many reasons why companies can have a problem, with cash flow, even if the business is doing well. Amongst there are:

• Unexpected late payments, and non-payments (bad debts).
• Unforeseen costs: a larger than expected tax bill, a strike, etc.
• An unexpected drop in demand.
• Over-borrowing from the bank to finance expansion plans.
• Investing too much in fixed assets.

Solutions might include:

• Credit control: chasing overdue accounts
• Stock control: keeping low levels of stock, minimizing work-in-progress, delivering to customers more quickly
• Expenditure control: delaying spending on capital equipment
• Marketing initiative: e.g. a sales promotion to generate cash quickly
• Using an outside company to recover a debt (called ’factoring’)

Break-even analysis

When deciding whether it would be profitable to produce a product, or offer a service, companies do a breakeven analysis. This compares expected sales of the new product with expected costs – both direct and indirect – at various production levels. The breakeven point is the sales volume – the number of units sold – at which the company covers its costs – pays all its expenses. To make a profit, it is necessary to sell more than this.

Although cost accounting allows companies to calculate production costs, pricing decisions also depend on:

• the level of demands
• the prices of competitors’ products
• the company’s financial situation
• the company’s objectives – the goals or aims it wants to accomplish
• the company’s marketing policies – whether it is interested in maximizing sales or mazimizing profit.