Why your profit and your bank balance disagree

A founder sends me two numbers about once a month and asks which one is lying. The profit and loss statement shows a gain. The bank account shows less money than it did thirty days ago. Both were produced by the same business in the same period, so one of them has to be wrong.

Neither is wrong. They answer different questions. The profit and loss statement asks whether the work you did was worth more than the cost of doing it. The bank account asks whether cash arrived and left. Those are related, but they are not the same question, and the distance between them is where most small companies get into trouble.

The four usual suspects

There are four ordinary reasons the two numbers drift apart. Almost every disagreement I have ever been asked to explain is one of them, or a combination.

The first is timing on receivables. You invoiced a customer in March, did the work in March, and recorded the revenue in March. The customer paid in May. March shows a profit and a receivable. May shows cash and no new revenue. If you are growing, this gap widens, because each month you are carrying more unpaid invoices than the month before. A company doubling revenue can be profitable every single month and still run out of money, purely because the customers pay later than the work happens. This is the one to check first, because it is the most common and the most dangerous.

The second is deferred revenue, which runs the other way. A customer pays you in January for twelve months of service. You have the cash in January, but you have not earned it yet. Accounting rules say you recognize it a month at a time, so January shows a large bank deposit and a small amount of revenue. Your bank balance looks better than your business is. Founders who spend that deposit in January are spending money they have not earned, and the problem shows up in October when the cash is gone and the revenue is still being recognized.

Timing, accruals, and owner draws

The third is capital spending. If you buy a laptop, a server contract, or a piece of equipment, you wrote a cheque. Accounting spreads that cost over the years you will use it. So the bank balance drops by the full amount in one month while the profit and loss statement absorbs a small slice. The business is not less profitable than it appears. It simply converted cash into an asset. The reverse happens when you depreciate something you already paid for years ago, and the profit statement takes a hit in a month where no money moved at all.

The fourth is the balance sheet items that never touch profit. Loan principal repayments are the big one. When you pay down a loan, the interest portion is an expense and shows up in profit. The principal portion is not an expense at all. It reduces the loan and reduces your cash, and profit is untouched. A company servicing a heavy loan can be profitable on paper and bleeding cash every month. Owner draws work the same way. Taking money out of the business is not a business expense, so it never appears in profit, but it absolutely leaves your bank account. Sales tax and payroll tax remittances behave similarly. You collected the money, you held it, and you sent it on. No profit impact, real cash out.

How to read both numbers together

So what do you do with this. The practical answer is that you stop treating either statement as the truth and start reading them together. Profit tells you whether the business model works. Cash tells you whether you will survive the next ninety days. A bookkeeping system that only produces a profit and loss statement is only telling you half of it, and usually the less urgent half.

The habit that fixes this is a monthly cash reconciliation. At the close of each month, take the change in your bank balance and explain it line by line against profit. Start with net profit, add back depreciation, subtract the increase in receivables, add the increase in payables, subtract loan principal, owner draws, and tax remittances. If the number you land on matches the actual change in your bank account, you understand your business that month. If it does not, you have found something you did not know about, which is what you wanted.

Most founders can do this in twenty minutes once the accounts are clean and the categories are consistent. The reason it feels impossible is almost always that the books are not clean, so the profit number itself is a guess, and you cannot reconcile against a guess.

If your profit and your bank balance have been disagreeing for a while and you cannot say why, that is worth fifteen minutes. We will look at the last three months of bank activity against the accounts and tell you which of the four reasons is yours, in plain English, with no obligation to hire us. You can grab a free Books Check here: https://app.usemotion.com/meet/GainesCapitalBooks/GCBDiscover

Matt

Matt runs Gaines Capital Books, a flat-rate bookkeeping and CFO shop for SaaS founders.