University of Maryland Extension

Income & expenses versus inflow & outflows

Author: 
Dale M. Johnson, Extension Specialist, Farm Management

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 The calculations to determine profit and cash are similar, but include different kinds of income and expenses. The text of this section explains these differences, marked by numbers in the figure and the text to help you refer back and forth.Figure 3: The calculations to determine profit and cash are similar, but include different kinds of income and expenses. The text of this section explains these differences, marked by numbers in the figure and the text to help you refer back and forth.

 

A cash flow budget does not determine if the business is profitable. An income statement is required to determine profitability. There is a difference between income & expenses and cash inflows & outflows. Figure 3 contrasts these differences. In the following paragraphs, numbers in parentheses refer to lines in Figure 3.

In calculating profit and cash flow, both include income(2) and expenses(6). Since income and expenses are the major financial transactions of a business, there are great similarities in the two calculations. But there are also significant differences.

Cash flow does not consider depreciation(11). It is not a cash flow. You do not “write out a check” for it. It does not affect the ending cash balance.

However, cash flow considers closely related items – capital purchases(7) and capital sales(3), things that last more than one year. If you buy machinery or build structures, you don’t expense the entire purchase price in the year you buy them, you depreciate them(11). However, you must have the cash to purchase these capital items. So capital purchases(7) are included in the cash flow. If you sell used machinery or other capital item, that is not income to include in calculating profit. You produce crops and livestock. You do not produce capital items and you are not in business to sell them. But when you sell a used capital item, cash flows into the business(3).

If the farm needs to buy a piece of equipment this year like a walk-behind tiller, the price of the tiller is included in the cash flow(7) because the entire cost has got to come from somewhere. If you don’t have the money, then you may borrow money(4) to buy the tiller. This is not income like selling crops. When you are borrowing money you have to pay it back(8). When you pay the principal back, it is not like buying seed or fertilizer. You are trading cash for reduced debt. So loan principal payments(8) are only included in the cash flow, not in calculating profit. Interest on loans is an expense and is included in the expenses(6) of calculating profit and cash flow.

Sometimes money flows into the business from other sources(5) For example, you may invest some of your personal savings or wages from an off-farm job in the farm. This inflow is not the same as income for selling agricultural products so it is not included in calculating profit. But, it is a cash inflow to be included in calculating cash flow(5). Sometimes you will withdraw money from the business(9) such as giving yourself a dividend from the profit. This is not the same as buying inputs so it is not included in calculating profit but it is included in the cash flow as a withdrawal from the business(9).

In summarizing cash flow, the yearly production period is usually broken down into quarters or months. For each of these periods, you begin with the beginning cash balance(1) You add income(2) and subtract expenses(6). You add capital sales(3) and subtract capital purchases(7). You add loan receipts(4) and subtract loan principal payments(8). You add off-farm income(5) and subtract withdrawals from the business(9). These calculations result in the ending cash balance for the period(10).

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Example farm cash flow

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