What can happen if you fail to distinguish profits from cash

I mentioned that profits have to do with increased wealth; and increased wealth is not the same as cash. If we fail to understand those differences, we can run into some serious trouble.

I thought I would illustrate what I am talking about.

Back in March of 1999, Lance, our CPA, came to us and said, “John and Sarita, I’m really embarrassed, but . . . you owe half a million dollars in taxes. You’ve already paid half a million dollars, but you still owe half a million dollars.”

!!!!?????!!!!

“How can that be?” we asked. –At the time, we hadn’t even earned $50,000 in a year. We had taken no money out of the company. So here we were, having not even gotten $50,000 out of the company, and the government had already received $500,000, and they wanted another $500,000 . . . by April 15th.

We didn’t have that kind of cash.

That’s when Lance explained to us about how profits don’t mean cash. And what had happened was, in 1998, in order to serve our customers better, and in order to avoid huge back order problems (in August of 1997, we were out of stock or backordered on over a third of the items we were selling!) . . . we had increased our inventory by $2 million.

And we had paid for it all. We had no more debt at the end of 1998 than we did at the beginning.

So our wealth had increased (assuming Sonlight were to stay in business and we could actually sell all those $2 million worth of books!), but personally, as a family, we had no more cash than we had ever had.

“So what are we supposed to do?” we asked.

“You’ll have to take out a loan.”

Which we did.

For half a million dollars.

To pay the Sonlight Curriculum corporate taxes.

And to get that loan, we had to make personal pledges or “guarantees” backed by our house and by any money we might ever earn in the future. If the company went belly-up, Sarita and I would be personally on the hook to pay off the half-million-dollar loan.

Here’s another example of how this can create problems.

For several years, now, we have been trying to break through the “50% Barrier” of charitable giving.

But it’s been hard. Not because we’re unwilling. Rather . . . because, as I learned to my dismay last year: we just don’t have the cash!

After paying out taxes and profit sharing for employees ^* . . . there’s just not enough cash left to give away 50% of net profits before taxes!

Last year, as we came up on the end of the year, I realized I had already pledged the equivalent of 46% of our company’s net profits to our various favorite charities . . . but we didn’t have the cash to meet the pledges. . . . So I pulled money out of savings so we could meet our pledge. (As I have told many people: if and when I “give my word,” I want to make sure I fulfill it–even if it is painful. As Psalm 15:4 teaches, the man of God keeps his word, even when it is to his own hurt. Or as Jesus taught [Matthew 5:37], the man of God says yes and means yes. He doesn’t say yes but “keep his fingers crossed” to let himself off the hook.)

I am glad I had the cash to take out of savings. But still, I would like to avoid having to make similar crisis-style decisions in the future if at all possible.

And if I am to do that, I need to remember that, even if we have lots of profits . . . that doesn’t mean we will necessarily have cash!

I need to look not only at bottom-line “profits,” but, much more, at actual cash flow.

^* We have established as a baseline that, after we’ve paid their normal salaries and benefits, we will pay 15% of our net profits before taxes to our employees in the form of special bonuses, gifts, profit sharing payments, 401(k) contributions, and so forth. Return to text.

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