Skip to 0 minutes and 3 secondsJenny is a friend of yours, and comes to you, as she has decided to set up a business selling sunglasses. She intends to borrow 11,000 pounds from a relative, as she has no cash herself, and open a business bank account. The bank will not allow her an overdraft. Her intentions are as follows. Jenny has put her figures into an accounting software package, which says that she is going to make a profit of 200 pounds in three weeks. Jenny is signing a rental deal at the start of week one for a shop at 750 pounds cost to be paid per week at the start of week one.

Skip to 0 minutes and 36 secondsThe landlord also wants a 3,000 pounds refundable security deposit on the premises on the same date. She says that this won't affect her overall profit though, as she will get this money back later. Jenny also plans to take on two employees. They will cost 200 pounds a week, and will be paid weekly in arrears. Jenny will buy the sunglasses from a supplier at a cost of 3,100 pounds in week one, and pay the supplier cash. She will not need to buy any more stock until week four. At the start of week one, Jenny intends to sign an annual insurance policy costing 2,600 pounds, paying the whole amount in cash in week one.

Skip to 1 minute and 16 secondsHowever, in terms of her profit, Jenny will spread the insurance cost over the 52 weeks of the year, which is 50 pounds per week.

Skip to 1 minute and 29 secondsIn week two, Jenny is confident she will sell 60 pairs of glasses at 40 pounds each for cash, which will bring in 2,400 pounds. She is also going to sell 45 pairs at the same price to a special friend of hers. Although, as he is short of money, he will owe her the 1,800 pounds income until week three.

Skip to 1 minute and 53 secondsIn week three, Jenny's expected sales are 70 per week, at 40 pounds each, making sales of 2,800 pounds. Customers pay for the glasses one week after they take delivery. So the funds will not be paid to Jenny until week four. Also, in week three, Jenny will need to buy some equipment for the shop. She will have to pay for it straight away in cash, costing 5,200 pounds. However, in terms of the equipment's impact on her profit, Jenny will spread the cost so it will be 5,200 pounds over 52 weeks, costing 100 pounds per week.

Cash vs. Profit

In this video we will look in more detail at the difference between profit and cash, and what this means for a start-up business in its first weeks of trading.

As Peter has explained, managing the cash cycle is critical for a healthy business. In this video you will see the impact on a business’s profit and bank balance of the owner’s transactions and how crucial these are for the survival of a new enterprise.

Don’t worry if you don’t catch everything! In the next step of the course we’ve provided an interactive exercise you can use to walk through each stage of Jenny’s business.

As we will explain, some transactions affect both profit and cash, whereas others only affect one or the other. Reasons for this include:

  • There are sometimes timing differences between when a transaction affects profit, and when cash is actually received or paid.

  • There are items that are costs and affect profit but don’t actually result in cash being paid out. However, according to accounting principles, profit needs to take account of every transaction that impacts the business whether it is a cash transaction or not.

What’s next?

There was a lot going on in this video! In the next step we’ll explain exactly what is happening at each stage, and there will be opportunities to check your understanding and ask questions.

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This video is from the free online course:

The Importance of Money in Business

University of Leeds