Simple Illustration of Profit And Cash Concept

April 21st, 2011 Comments off
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It is important to understand the difference between Profit and Cash concept.

Below a simple question to test you on this profit and cash concept:

ABC sells computer on a retail basis. The firm began operations during December 2010 and sold computer for cash of $330,000. The computer that was sold by ABC was delivered by the supplier during December, but the supplier has granted ABC credit terms according to which payment is not due until January 2011. ABC is obligated to pay $300,000 in January for the computer  it sold during December

1.       How much is ABC’s profit for December 2010 if no other transactions occurred?

2.       How much is ABC’s cash flow for December 2010?

Solution:

1.       ABC’s profit for Dec 2010 = excess of the sales price ($330,000) over the cost of the goods that were sold ($300,000) = $30,000

2.        December 2010 cash flow is $330,000

In earlier article on profit and cash concept, profitability is important as it is the ability to generate positive cash flow.

But cash flow is also crucial because, ultimately cash is needed to pay employees, suppliers and others to continue as a going concern.

Some might not realize that highly profitable companies might go under because of liquidity or cash problems say for example a company managed to generate big profits for a project but due to delays from the customer, the firm is unable to pay its staff, suppliers of goods and services and other essential parties.

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Financial Accounting

 
 

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