Accounting in practice · 3 minute read
Profit vs. cash: why a profitable business can run short
A customer can owe you money before that money reaches your bank account. That timing gap is one reason profit and cash move differently.
You finished the work. Payment comes next month.
Imagine a small design studio. In September, it completes a project and earns ¥30,000. The client accepts the work and owes the full amount, payable in October. The studio expects to collect it.
We use accrual accounting and leave out all costs and taxes to focus on timing. These yen amounts are illustrative; this is a simplified example, not a full set of financial statements.
In September, the studio records ¥30,000 of revenue and ¥30,000 of accounts receivable: the amount its customer owes. With no expenses in this example, profit increases by ¥30,000. Cash has not changed.
When the invoice is paid, do you earn it again?
No. In October, the client pays the full ¥30,000. Cash increases, and accounts receivable decreases by the same amount. There is no new revenue or profit from collecting this invoice.
| What changes? | September: work completed | October: payment collected |
|---|---|---|
| Revenue | +30,000 | 0 |
| Profit | +30,000 | 0 |
| Cash | 0 | +30,000 |
| Accounts receivable | +30,000 | −30,000 |
Across both months, this project produces ¥30,000 of profit and brings in ¥30,000 of cash. They arrive in different months. The table shows changes, not the studio’s total bank balance.
Follow the journal entries
September: debit Accounts receivable ¥30,000; credit Service revenue ¥30,000.
October: debit Cash ¥30,000; credit Accounts receivable ¥30,000.
“Debit” and “credit” name the two sides of an entry. Here, both cash and accounts receivable are assets: a debit increases them, and a credit decreases them. The credit to revenue records what the studio earned.
Why this matters at work
If rent is due before October’s payment arrives, the studio needs enough cash from elsewhere to pay it. A profitable project does not guarantee cash is available on the day a bill falls due.
This is why readers look at both earnings and cash movements. The SEC’s guide to financial statements explains the different questions answered by income statements and cash flow statements.
Try it: an unpaid invoice
A consultant completes a ¥50,000 project in November. The customer owes the full amount and pays in December. Assume accrual accounting, expected collection, and no costs or taxes.
How much does this project add to November’s profit and cash? What changes in December?
Show the answer
November: profit increases by ¥50,000, cash does not change, and accounts receivable increases by ¥50,000.
December: cash increases by ¥50,000 and accounts receivable falls by ¥50,000. Collection adds no new profit.
Check your reasoning: earning the revenue and collecting the money are separate events.