Have you noticed that when you do buy that big purchase, the latest Mac, tablet, van or even the premises you’re in, that it doesn’t seem to all come off your current years profit?
The purchase of ‘Assets’ are one of the main causes for the difference between cash and profit in businesses, for example, if you decide there is enough money in the bank to fund a new set of business smartphones/computers. When you order and pay for those, all the money leaves your account and your cash balance is reduced.
However, the full cost does not come off your Profit, only the first years Depreciation Charge does. Which in accounting principle, is correct, but no longer matches the behaviour of the bank/cash.
Knowing the mechanics of the concept ensures that when you are forecasting and are looking at cash levels especially during strategic planning, funding and decision making, you can accurately match how future purchases will be treated and its impact on profit and cash individually. More importantly, you can ensure that you have enough cash in your business to continue running, even if that means looking at less cash intensive funding options like loans or leasing to fund that expansion plan.
What helps you know your numbers?