"Revenue is vanity, profit is sanity, but cash flow is reality."
Motivation Monday - Richard's Insight
Revenue is vanity.
This can relate to sales or turnover in value terms such as a 'six figure rent roll' or xx thousand / hundreds of thousands or even million per year. Or it could relate to quantity references such as 100 properties, rooms or tenancies. Essentially, on their own these can just be measures of our ego, hence the term vanity. For example, who is better off, the investor with 100 properties with mortgages at an average loan to value of 75% or someone with 30 properties with zero debt? Probably the latter but it depends, as we shall see next.
Profit is sanity.
As inferred by the illustration above, someone with debt on the portfolio also has a mortgage payment to make which reduces the net profit on the portfolio. Profit is simply the difference between our revenue and all of our costs. Some costs are unpredictable however, such as rental voids, repairs and maintenance but they still affect our profitability. Other costs may be in the form of a provision or a 'paper cost' such as depreciation or provision of bad debt, where we think we will not recover the rent we are owed by an absconding tenant. However, profit can be seen as a stronger measure of our success than revenue as it takes more into consideration than revenue alone.
Cash flow is reality.
Profit alone may mask the strength of our business and that is because it often hides one very important ingredient: timing. Yes, we can measure our profit annually, quarterly or monthly say, however, it will usually not reveal how 'liquid' we are at any given point in time. This is partly because some aspects of our profit are not actually costs or revenue that go through our bank account on the day they should. This could include late rent receipts, depreciation on furniture and other assets or house purchases and their associated mortgage advance for example. So timing of when we actually receive and pay all of our bills and revenue really does get reflected in our bank balance and is independent of both revenue and profit, although they are linked clearly. For this reason, cash is seen as the lifeblood of our business and if we don't have it when we need it, then we are effectively bankrupt.
For this reason then, cash flow is very much the reality and we should never forget that.
Yes, we should measure our revenue and our profit, but the one that can literally make or break us is our cash flow and we need to make sure we are always in control of how much cash we have and how that can change in a heartbeat.