Executive Insight #017 Cash Flow Doesn't Start With Cash

Why the Cash Result You See Today Began With Decisions Made Throughout the Business

Estimated Reading Time: 8 Minutes

Key Insight: Cash flow is where the financial consequences of business decisions ultimately become visible. If you want to understand the cash result, don't start with the bank account. Start with the decisions that created it.

Executive Observation

When cash gets tight, the natural reaction is to look at cash. How much is in the bank? What is coming in? What has to go out? Which customers haven't paid? What expenditures can be postponed? Do we need to borrow?

Those are legitimate questions. Sometimes they are urgent questions. But they begin at the end of the story.

Long before the bank balance changed, decisions were being made throughout the business. A price was quoted. A customer was given payment terms. Inventory was ordered. An employee was hired. Equipment was purchased. Debt was assumed. A distribution was made. Growth was pursued.

Each decision may have been completely reasonable when it was made. But each also carried financial consequences, and eventually those consequences found their way to cash.

That is why, after more than four decades working in and around businesses, I have come to view cash flow differently. Cash flow is not simply a financial result. It is a management result.

The Number Is the Result

Owners spend a great deal of time looking at financial numbers: revenue, gross margin, operating expenses, inventory, receivables, accounts payable, debt, and cash. Those numbers matter because they tell us what happened financially.

But businesses don't operate as numbers. Behind every number, something happened.

If receivables increased, customers bought something and were allowed to pay later. If inventory increased, someone decided to purchase, manufacture, or retain more product. If gross margin declined, something changed in price, cost, customer mix, product mix, purchasing, production, or some combination of them. If operating expenses increased, commitments were made. If debt increased, the business needed—or chose to use—additional financing.

The financial statements record the results. The decisions came first.

This is one of the central ideas behind Most SMBs Don't Have a Cash Flow Problem™ — They Have a Decision Problem. Cash flow isn't where the business story begins. It is where the financial consequences of that story become visible.

Once you begin looking at cash flow that way, the management conversation changes. Instead of simply asking, “What happened to cash?” you begin asking, “What happened inside the business that caused cash to change?”

Finance Measures It. The Business Creates It.

Cash flow is often treated primarily as a Finance responsibility, and there are good reasons for that. Accounting records what happened. Finance analyzes results, prepares forecasts, monitors liquidity, manages banking relationships, and helps leadership understand the company's financial position.

The problem begins when responsibility for measuring cash flow becomes confused with responsibility for creating it.

Sales establishes or negotiates prices and customer terms. Purchasing commits money to materials and inventory. Operations influences production, staffing, efficiency, service requirements, and capacity. Management approves hiring, compensation, technology, and other operating commitments. Leadership makes decisions about growth and capital investment. Owners determine how much cash remains in the business and how much is distributed.

Finance may participate in many of those decisions, particularly in a well-managed company, but Finance doesn't originate all of them—and shouldn't. The broader management challenge is making important decisions with sufficient visibility into their financial consequences.

Most of those decisions will never appear on a meeting agenda under the heading Cash Flow Decision. They are simply business decisions. Yet collectively they influence the cash the company generates, consumes, retains, or requires.

Consider a Simple Growth Decision

Suppose a manufacturer lands a significant new customer. Revenue will increase, the business appears profitable, and management has every reason to be pleased.

But what happens before the company receives the cash from that customer?

The manufacturer may need to purchase additional raw materials, build inventory, increase production hours, hire employees, pay freight, or invest in additional capacity.

After the product ships, the company may then wait 30, 45, 60 days—or longer—for payment.

Cash can leave the business well before the cash associated with the new revenue arrives.

Does that make the customer or the growth decision bad? Of course not. Growth may be strategically important and highly profitable. The point is that the decision has a financial consequence, and management is better served understanding that consequence when the decision is being made than discovering it months later when the bank balance becomes uncomfortable.

The same principle applies throughout the business. Additional inventory may improve customer service. A new employee may provide badly needed capability. New equipment may increase capacity or improve efficiency. Extending payment terms may help secure an important customer.

Good business decisions can consume cash.

The objective isn't to avoid them. It is to understand what they require financially, why the business is making them, and what management expects them to accomplish.

The Cash Problem May Have Started Months Ago

One experience early in my executive career changed the way I thought about this permanently.

On February 14, 1988, about one week into a new CFO position, I received a Sunday afternoon phone call from the Controller. The company couldn't make payroll the following Friday. Approximately 300 employees were expecting to be paid, available borrowing capacity was essentially exhausted, and we had five days to solve the problem.

At that moment, we unquestionably had a cash-flow problem.

But the problem hadn't started that Sunday.

By then, inventory had already been purchased. Products had already been sold at particular prices and payment terms. Employees had already been hired. Expenses had already been incurred. Capital had already been committed. Growth and financing decisions had already been made. By the time the cash shortage became impossible to ignore, much of the story behind it had already been written.

The immediate question that afternoon was obvious: Where are we going to find the cash?

We had to answer it.

But the question that stayed with me for the next four decades was different:

How did we get here?

That question moves the management conversation upstream.

Look Behind the Number

Suppose inventory increased substantially during the quarter. The financial statement tells management what happened, but it doesn't necessarily explain why.

Perhaps management deliberately increased safety stock because supplier lead times became unreliable. Maybe a large new customer required additional inventory. Demand may have fallen below forecast. Purchasing may have taken advantage of attractive volume pricing. New products may have been introduced while older inventory moved more slowly than expected.

The same inventory increase can therefore represent very different business circumstances.

Receivables work the same way. A higher balance may reflect strong growth, slower collections, longer payment terms, customer mix, billing problems, disputed invoices, or some combination of them.

The number is the clue.

Management still has to find the story behind it.

That is why the Decision Problem guide identifies ten primary Cash Flow Drivers: growth, pricing, Cost of Goods Sold, operating expenses, inventory, receivables, accounts payable, capital expenditures, debt, and owner distributions. They aren't presented as ten formulas that management should blindly optimize. They are places to look when trying to understand how business decisions eventually become financial results.

Today's Decisions Are Creating Tomorrow's Cash Flow

There is an important forward-looking implication.

Today's cash flow reflects decisions and circumstances that have already occurred. But another set of decisions is being made right now. Prices are being negotiated. Customers are being pursued. Orders are being placed. People are being hired. Inventory is being built. Investments are being approved. Growth commitments are being made.

Those decisions are already beginning to shape the financial position the business will experience tomorrow.

That leads to a much more useful management question than simply asking whether today's cash balance is adequate:

What are the decisions we're making today doing to tomorrow's cash flow?

That doesn't mean every decision needs an elaborate financial model. Owner-led businesses often succeed precisely because they can make decisions quickly without layers of bureaucracy.

It means the important financial consequences should not remain invisible until after the decision has already been made.

Executive Reflection

Take a look at your company's cash flow over the last quarter. Instead of beginning by deciding whether the result was good or bad, ask a different question:

What decisions created the cash flow we experienced?

Look at what happened with growth, pricing, margins, expenses, inventory, receivables, payables, capital expenditures, debt, and distributions. Where did something materially change? Then look behind that change.

What happened inside the business?

Why did it happen?

Was it deliberate?

Did the financial consequence match what management expected?

Then turn the question around and look forward. What significant decisions are being made today involving customers, pricing, inventory, people, expenses, equipment, financing, growth, or owner distributions?

What are those decisions doing to tomorrow's cash flow?

That is where cash-flow management begins to become management rather than simply financial reporting.

The BusinessWiser™ Perspective

The first half of the BusinessWiser™ Dynamic Duo is built around a straightforward premise:

Most SMBs don't have a cash flow problem. They have a decision problem.

That doesn't mean every cash-flow problem is caused by a bad decision. Markets change. Customers change. Suppliers encounter problems. Forecasts are wrong.

Unexpected events happen. Even well-considered decisions can produce disappointing results.

The point is more useful than assigning blame.

Cash flow reflects the cumulative effect of decisions, commitments, operating performance, and circumstances throughout the business. Understanding those connections gives management greater visibility into why the business produced the financial result it did.

And that creates the foundation for the second half of the Dynamic Duo.

Because the objective isn't merely to understand cash flow.

It's to strengthen the business's ability to create it.

And ultimately, stronger cash flow can create something even more valuable:

Options.

Related BusinessWiser™ Resources

Executive Guide: Most SMBs Don't Have a Cash Flow Problem™ — They Have a Decision Problem

Executive Guide: Cash Flow Creates Options™

Executive Tool: One-Page Net Cash Flow Driver Report

Framework: CASHfloWiser™

Framework: DRIVERwiser™

Podcast: Executive Insight #017 — Cash Flow Doesn't Start With Cash

Final Thought

The bank balance matters.

But it is not where the story begins.

The business creates financial consequences every day through the decisions it makes about customers, pricing, purchasing, inventory, people, expenses, investment, financing, growth, and ownership.

Eventually, those consequences become visible in cash flow.

So when the number changes, don't stop at the number.

Ask:

What decisions put us here?

Then ask the question that matters for the future:

What decisions are we making today that are creating tomorrow's cash flow?

Because cash flow doesn't start with cash.

It starts with decisions.