In this video, Marco Soares explains one of the most misunderstood concepts in business, the cash gap, and why the faster your business grows, the tighter your cash can feel. If you have ever found yourself profitable on paper yet struggling financially, this is for you.

Your Business Is Growing, So Why Does Cash Feel Tight?

Business is great. Revenue is going up, and you are profitable. Yet for some reason, cash feels tight. In fact, it feels worse than ever before. If you are asking yourself why this is happening, the answer may well lie in your cash gap. The more you grow, the tighter cash feels. That is not a coincidence. It is a predictable consequence of not understanding and managing your cash gap properly.

What Is Your Cash Gap?

Your cash gap is one of the most important concepts you need to understand and manage properly in your business. If you do not, you will sleepwalk into cash flow issues that are completely avoidable. Effectively, your cash gap helps you understand how much money you have tied up in debtors, stock, and creditors. If your business has work in progress, that is included too. You can build an equation that shows you how much cash, and how many days’ worth of working capital, is tied up in your cash gap.

Why Most Business Owners Miss This

The trouble is that most business owners love a profit and loss statement. It is quite intuitive, it is satisfying to see how much revenue you have made and how much profit you have made, and it is indeed a very important financial statement. However, if you are not looking at your balance sheet and you are not paying attention to the numbers that make up your cash gap, then you are only getting half of the story.

A Real-World Case Study: Reading the Numbers Properly

Consider this example. A business has a reasonable turnover and is very profitable. If you only looked at those numbers, you would think it was a business well worth owning. However, when you look at the balance sheet, some very large numbers begin to emerge. On their own, those numbers are difficult to interpret, which is why you need to convert them into days.

Debtor Days: This business has £1.8 million in debtors, which translates to a debtor days figure of 98. That means it takes this business an average of 98 days to get paid. That is quite high.

Stock Days: Their stock figure of £1.7 million translates into 163 days’ worth of stock. In theory, this business would not need to purchase stock for 163 days to service its turnover. Again, that is a significant amount of capital tied up in one place.

Creditor Days: Creditor days reflect the speed at which you pay your suppliers. This business has £750,000 in trade creditors, which translates to an average payment period of 68 days.

Here, the problem starts to become clear: this business is getting paid after 98 days, yet it is paying its suppliers in 68 days. It is also carrying a very large amount of money tied up in stock.

Calculating the Cash Gap

Your cash gap is your debtor days plus your stock days and work-in-progress days, less your creditor days.

In this example, that results in a cash gap of 193 days. In other words, this business needs 193 days’ worth of working capital in order to fund itself at its current rate of trading. When you translate that into money, it amounts to approximately £2.1 million tied up in debtors, stock, and the rate of payments to trade creditors. That is an enormous and critically important number.

Understanding your key financial numbers is central to running a healthy business. If you want to go deeper on this, take a look at The Top 5 Measures You Must Measure, Understand and Analyse and Owning the Numbers for further insight.

Why Growth Amplifies the Problem

The reason growth sucks cash is straightforward: if your cash gap contains weaknesses, any growth you achieve will amplify those weaknesses. It creates an additional cash burden that you are probably not thinking about, not anticipating, and not planning for. Most businesses focus on the profit and loss statement and simply do not look at the cash gap figures. They do not understand what those numbers are likely to mean for their business as it grows.

If the business in the example above were to grow by just 20%, the 193-day cash gap would remain the same, but the cash tied up within it would increase from £2.1 million to £2.5 million. That additional £400,000 has to come from somewhere.

Growing businesses also need more people, so overheads increase. If you have the horrible combination of rising overheads and a growing cash gap — particularly when you are not managing or understanding these things — cash is going to feel awfully tight, awfully quickly.

What This Means for You and Your Business

You need to get your head around your cash gap. You need to understand it and monitor it religiously every single month. Your management team really need to understand these figures and how each function within the business can contribute positively, or negatively, to them. And you need to be very clear on how you are going to reduce your cash gap, so that as your business grows, you build cash rather than constantly seeking additional finance, constraining growth, or enduring sleepless nights.Your cash gap is one of the most important concepts in your business, and you absolutely need to understand it. For more practical business insights like this, explore the full Mind Your Own Business series, or subscribe to the Marco Soares YouTube channel, where new episodes are released regularly.