Read a Factory Balance Sheet, Profit Statement and Cash Flow Together

Profit and cash can move in different directions

The factory reports a profit of CU8,000 for the month. Its cash balance has fallen by CU7,000. Before anyone concludes that the accounts are wrong, the team needs to follow the transactions between the reports.

Some buyers have not paid yet. Some fabric remains in stores. Suppliers have allowed credit. The factory has bought equipment and received a new loan. Each event affects the accounts in a different way. Profit alone cannot explain the bank balance, and a bank balance cannot show the profit earned.

This guide builds one original, fully reconciled example around those links. CU means invented currency units. The amounts describe a fictional garment factory, not a market benchmark. The aim is to help a manager read financial statements and ask better questions about the figures.

The example uses selected IFRS principles and clear simplifying assumptions. It is not a complete set of statutory accounts. Actual reports must follow the entity's accounting framework, policies and local requirements.

Read the date before reading the amount

A balance sheet, also called a statement of financial position, reports balances at a date. A profit statement and a cash flow statement cover activity during a period. A closing balance therefore needs an opening balance and an explanation of the changes between them.

The SEC's introductory financial-statement guide explains the distinct purposes of these reports. For factory use, keep three questions in view:

First confirm that all reports cover the same entity and currency. A group sales report cannot be compared directly with one factory's bank account. Nor should a monthly profit figure be matched to a year-to-date cash flow total.

Check the unit printed above the columns. An amount shown in thousands is not an individual currency unit. Then check whether the period is a full month and whether the figures are final. These simple details can explain an apparent difference before any accounting analysis begins.

Set up a small, complete example

At the start of the fictional month, the factory has cash of CU20,000. Buyers owe CU8,000. Raw materials held in stores cost CU15,000. Existing production equipment has a net carrying amount of CU30,000.

The opening assets are therefore:

CU20,000 + CU8,000 + CU15,000 + CU30,000 = CU73,000.

Suppliers are owed CU10,000, and the factory has a loan balance of CU15,000. Opening equity is CU48,000. Thus liabilities of CU25,000 plus equity of CU48,000 equal assets of CU73,000.

Equity is the recorded residual after liabilities are deducted from assets. It is not a separate bank account. The opening equity in this example could reflect capital and past retained results; no further breakdown is needed for the calculation.

For this teaching model, assume no tax, interest, leases, foreign exchange changes, returns, impairment or owner transactions. No other balances or transactions are present. The revenue and cost records are correct. There is no opening or closing work in progress or finished stock: all closing inventory is unused raw material.

Those boundaries matter. They let us reconcile the whole model without silently omitting costs or guessing what remains in production. A real factory must include its actual balances and transactions, even when they make the explanation longer.

Follow sales into receivables and receipts

During the month, the factory earns CU36,000 of revenue from garments. Buyers pay CU12,000 immediately. The remaining CU24,000 is sold on credit and remains unpaid at month end. The factory also collects CU6,000 from the CU8,000 owed at the start.

Assume the contracts qualify for revenue recognition and the promised goods have transferred to buyers. These are completed sales under the stated facts. IFRS 15 connects revenue to satisfying the relevant promises under a contract. Receiving cash is a different event. In practice, finance must assess the contract rather than treat every dispatch as automatic revenue.

The customer receipts are:

Cash sales CU12,000 + collection of old invoices CU6,000 = CU18,000.

The closing receivables are:

Opening CU8,000 + credit sales CU24,000 − collections CU6,000 = CU26,000.

The collection of an old invoice does not create another sale. It exchanges one recorded asset for another: receivables fall and cash rises. The revenue was recorded when earned in the earlier period.

The new credit sale has the opposite timing pattern. Revenue appears now, but cash comes later. A manager who reads CU36,000 of sales as CU36,000 available to spend will overstate this month's customer receipts by CU18,000.

Receivables also need detail. Of the closing CU26,000, CU2,000 comes from the opening balance and CU24,000 from current sales. This split does not tell us whether either amount is overdue. For that, read the agreed due dates, disputes and collection evidence. The closing total alone cannot establish collectability.

Keep the customer and invoice detail behind that total. One large disputed invoice creates a different collection problem from many small invoices that are still within terms. A receipt after month end may help explain an open balance, but it does not become cash received during this month. Preserve the actual dates when comparing the report with later bank activity. Otherwise, a discussion about collection progress can quietly mix two reporting periods.

Trace materials through inventory and cost of sales

The factory buys CU18,000 of raw materials. It pays CU8,000 on receipt and buys CU10,000 on supplier credit. It also pays CU4,000 against its opening supplier balance. None of that payment settles the new credit purchase in this example.

Closing supplier payables are therefore:

Opening CU10,000 + credit purchases CU10,000 − payments CU4,000 = CU16,000.

The physical and cost records show that CU15,000 of raw materials entered the garments completed and sold this month. The materials left in stores cost:

Opening CU15,000 + purchases CU18,000 − material used CU15,000 = CU18,000.

Purchases, payments and consumption are three different amounts. Buying CU18,000 of material does not mean all CU18,000 became this month's expense. Paying an old supplier balance does not mean the factory bought that same material again.

The inventory figures are values, not metres or garment counts. A CU3,000 increase can reflect a change in quantity, material mix or assigned cost. The financial statement alone does not tell us which occurred. Use the quantity records and cost layers to explain the movement. If a manager wants to know whether stores now holds too much fabric, the closing currency total is only the starting point.

The IAS 2 overview explains that inventory cost includes purchase and conversion costs. When goods are sold, their carrying amount becomes an expense in the period of the related revenue. Inventory also needs review against net realisable value. The model assumes no write-down is required.

Conversion of the materials costs another CU10,000. This comprises CU6,000 of direct labour paid in cash, CU3,000 of other production overhead paid in cash and CU1,000 of equipment depreciation. Assume these are all the relevant conversion costs, allocated on an appropriate basis.

All the converted garments are completed and sold. No conversion cost remains in closing stock. Their total cost is:

Materials CU15,000 + cash conversion costs CU9,000 + depreciation CU1,000 = CU25,000.

This is the cost of goods sold in the profit statement. The CU1,000 depreciation is already inside that figure. Subtracting it again as another expense would count the same cost twice.

The connection to an order's selling price is a separate analysis. ApparelDiary's garment costing guide explains that relationship. Here, we are following recorded costs into the financial statements, not setting a quotation or a target price.

Understand equipment without treating it as current cash

Existing equipment loses CU1,000 of carrying amount through the month's depreciation charge. In this model, it is production equipment used for the garments sold. IAS 16, paragraphs 48 and 49, explains how manufacturing depreciation can enter inventory conversion cost. Our case then carries it into cost of sales because the related goods are sold.

The factory also pays CU5,000 for new equipment that meets the asset-recognition criteria. This is its complete capitalised cost in the example. The equipment is not yet in the location and condition needed for its intended use. It becomes available for use next month, so this month's model includes no depreciation on that addition.

That timing follows the availability-for-use principle in IAS 16 paragraph 55. It should not be confused with a general rule that depreciation waits for the first profitable order. Equipment that is already available for use may have a different treatment even if production is idle.

Net equipment at month end is:

Opening CU30,000 + addition CU5,000 − depreciation CU1,000 = CU34,000.

The CU5,000 cash payment does not become a CU5,000 expense merely because the bank balance fell. It acquired an asset under the stated facts. Equally, the CU34,000 carrying amount is not a claim about what a buyer would pay for the equipment today.

Depreciation allocates an asset's depreciable amount over its useful life. It does not place cash in a replacement fund. A manager can plan such a fund, but the accounting charge alone does not create one.

Read the profit statement without adding cash flows to it

The factory has CU3,000 of administrative expenses, all incurred and paid this month. There are no other income or expense items in the model. The profit statement is now straightforward:

The CU8,000 is the result after the model's expenses. It is not a promise that the factory can distribute CU8,000 to owners or spend that amount safely. Taxes, borrowing terms and other constraints are outside this simplified example.

The factory also receives a new loan of CU4,000 during the month. That receipt raises cash and the loan liability. It does not raise revenue or profit. The closing loan balance is CU15,000 + CU4,000 = CU19,000, with no repayment in the model.

At this point, the profit statement is complete for our assumptions. To explain liquidity, we must turn to receipts and payments rather than insert the loan or the equipment purchase into profit.

Rebuild cash from the actual receipts and payments

The IAS 7 overview separates operating, investing and financing cash flows. The operating section can use a direct presentation of receipts and payments or an indirect reconciliation from profit. Both routes must describe the same cash result.

For the direct view, take only this month's cash movements. Supplier payments include CU8,000 for new material and CU4,000 against old invoices. Together they use CU12,000. Labour, other production overhead and administrative payments use another CU12,000.

Cash therefore closes at CU20,000 − CU7,000 = CU13,000. The result is consistent with the bank movement described at the start.

This table explains why cash fell. Operations used CU6,000; the equipment purchase used CU5,000; the loan supplied CU4,000. Calling the whole CU7,000 fall an operating loss would mix three different activities and confuse cash with profit.

The model has only cash, with no cash equivalents or restricted balances. An actual statement must use its defined cash-and-cash-equivalent basis. IAS 7 requires a reconciliation to the corresponding balance-sheet amounts. A bank balance from a different date or with a different scope cannot replace that check.

Reconcile the same operating cash flow from profit

The indirect route starts with the model's CU8,000 profit. It removes non-cash effects and adjusts for operating amounts whose cash timing differs from their accounting timing. We can explain each adjustment from the transactions already shown.

Depreciation of CU1,000 reduced profit through cost of goods sold but did not require a cash payment this month. It is added back in this reconciliation. Receivables rose by CU18,000, so that portion of recognised revenue has not become cash. Inventory rose by CU3,000, tying up more cost in material held. Supplier payables rose by CU6,000, leaving part of the purchases unpaid.

The two methods agree. Profit of CU8,000 becomes CU9,000 before these working-capital changes. Receivables and inventory use CU21,000, while supplier credit supplies CU6,000 of timing support. The net use is CU15,000, leaving an operating outflow of CU6,000.

Adding back depreciation does not undo its cost or create a cash receipt. It removes a non-cash charge from the starting profit figure. The cash effect of buying equipment appears separately in investing activities.

These signs work for the specified movements in this simple model. Do not apply them blindly to every change in a real balance sheet. Acquisitions, exchange effects, write-offs and reclassifications can change balances without the corresponding operating cash movement. Reconcile the movement schedule before treating a closing-minus-opening difference as cash flow.

Close the balance sheet and connect equity to profit

We can now place the opening and closing balances beside each other. The equipment column uses net carrying amounts. All inventory at both dates is raw material under the model's assumptions.

Closing equity is CU48,000 + CU8,000 profit = CU56,000. That simple bridge works because the case excludes owner contributions, distributions and other equity movements. Actual equity can change for those and other reasons, so profit alone may not explain its movement.

The final accounting equation is CU91,000 assets = CU35,000 liabilities + CU56,000 equity. It agrees with the cash flow and profit calculations.

Notice where the apparent wealth sits. The factory has more assets and more equity, yet less cash. Receivables, inventory and net equipment have grown. Those balances cannot all be spent like cash on the next payroll date.

A balanced equation is a useful check, but it is not proof that every amount is correct. An omitted transaction can leave both sides equally understated. Reliable interpretation still depends on accurate source records and appropriate accounting policies.

Ask what would change the explanation

Imagine one buyer pays another CU6,000 of the current month's credit sales before month end. Hold every other fact unchanged. Closing receivables fall from CU26,000 to CU20,000, and closing cash rises from CU13,000 to CU19,000.

Profit remains CU8,000. The factory has collected an existing receivable, not earned extra revenue. Operating cash flow improves from an outflow of CU6,000 to zero. Total assets remain CU91,000 because one asset has replaced another.

This small change shows why collection timing deserves its own review. It also shows the limit of a statement based on month-end totals. Two factories could report the same monthly receipts while facing very different daily cash pressures. The statements explain the period; a dated cash forecast answers when funds are needed next.

The same care applies to supplier credit. Leaving an invoice unpaid preserves cash for now. It does not improve the underlying margin. The team must check agreed terms and actual due dates before calling a rising payable balance a sound improvement.

Inventory growth also needs a physical explanation. The CU18,000 closing stock might support confirmed orders, or it might include material with weak demand. Our example assumes the recorded value is appropriate. A real review must test that assumption through stock records, condition and expected use. ApparelDiary's ABC-XYZ inventory guide offers a way to examine value and demand patterns alongside the financial total.

Read the notes before deciding that the business is healthy

Three headline reports do not tell the whole story. The IAS 1 overview describes a complete set that also includes changes in equity, relevant comprehensive income, notes and comparative information. Our compact model leaves those presentation requirements outside its scope.

Read the policies behind revenue, stock and depreciation. Check whether receivables are overdue or disputed. Find the loan terms and any pledged assets. Ask whether cash is available for ordinary payments. A total may be arithmetically correct yet inadequate for the decision the manager is trying to make.

The CU19,000 loan balance, for example, does not reveal its repayment dates. An amount due next week creates a different cash need from an amount due several years later. Read the repayment schedule and relevant conditions rather than infer them from the word “loan.” This model excludes interest to keep the links visible; that does not mean an actual facility is free. Its future payments need their own dated review.

Comparisons need the same basis. A higher gross profit may reflect a different product mix, a change in cost allocation or a real improvement. A lower inventory balance may reflect consumption, a write-down or a transfer outside the reported entity. The movement alone does not name its cause.

Reporting requirements also change. IFRS 18 replaces IAS 1 for annual periods beginning on or after 1 January 2027, with earlier application permitted. It introduces defined profit subtotals and other presentation requirements. Check which basis applies to the report being read. The simple labels used here are teaching labels, not a full presentation template under either standard.

In a factory review meeting, bring the linked explanations together. Begin with revenue and cost, follow the difference between profit and operating cash, then examine equipment and financing movements. Finish by checking the closing balances and the questions left open in the notes.

For this fictional month, the explanation is precise: CU8,000 profit, CU6,000 operating cash used, CU5,000 invested in equipment and CU4,000 borrowed. Cash ends at CU13,000, and equity ends at CU56,000. Each figure describes a different part of the same month's activity. Reading them together gives the manager a basis for action that none provides alone.

References

• US Securities and Exchange Commission: Beginners' Guide to Financial Statements.

• IFRS Foundation: IFRS 15, Revenue from Contracts with Customers.

• IFRS Foundation: IAS 2, Inventories.

• IFRS Foundation: IAS 16, Property, Plant and Equipment, especially paragraphs 48–55.

• IFRS Foundation: IAS 7, Statement of Cash Flows.

• IFRS Foundation: IAS 1, Presentation of Financial Statements.

• IFRS Foundation: IFRS 18, Presentation and Disclosure in Financial Statements.