Updated: Nov 15, 2019
By Daniel Goodwin
While any credible business has financial statements, few families do. A company needs to be able to quickly view its P&L (profit and loss) and balance sheet (assets and liabilities). These statements quickly tell the reader about the health of the company, the company’s financial strength or weakness, and what the company’s value might be.
These reports can also help in determining how much money a company can borrow from a bank. Over time, a company’s ability to successfully manage income and expenses, as well as assets and liabilities, determines the financial success and strength of the company. The same principals are true for your family. The P&L statement is a statement of how much money is coming into the business each month and how much is leaving the business each month. If the company is earning a profit, or has a surplus, the figure at the bottom of the report is in black ink.
The company is profitable or “in the black.” If the company is losing money, the figure at the bottom is in red ink, indicating a loss. The P&L is the accepted accounting tool that businesses use to know their numbers and to plan and adjust their strategy accordingly.
Few families really know or have any method for seeing what their true income and expenses amount to. It has been estimated that less than one in ten households operates under any sort of budget or method of assessing how the family is managing income and expenses.
Managing cash flow means controlling the amount of money that comes into and leaves your bank account each month. The simple goal in managing cash flow is to create a surplus. That surplus is then allocated into investments that will make you financially secure over time. I believe that for families managing cash flow is as important as it is for a Fortune 500 company. After all, are you more concerned with your family’s financial health or Exxon Mobil’s?
Most people I know think of cash flow management as budgeting and would rather eat a cockroach than go on a budget. In simple terms, a budget sets aside certain amounts of money each month for different expense categories, including all necessary and discretionary expenses.
“Budgets don’t feel good.” “Budgets are restrictive.” “Budgets make you feel like a pauper.” “Budgets cramp our style.” “Budgets don’t let you live in the moment.” “Budgets feel like grown - up allowance” That’s how people think, right? The reality is that while most people do not say any of those things out loud, they quietly avoid budgeting and ignore the fact that each month they slip further and further from their dreams and any degree of financial solvency.
This generally is where the credit cards and home equity loans come into play, further compounding (and not addressing) the real problem of cash flow management and family P&L. “You only live once.” “You can’t take it with you.” “Money can’t buy happiness” “I don’t want to be controlled by money.” These are all common laments and excuses for people who do not want to face the reality of managing their income and expenses.
This story is far too common with big earners as well as those who really work hard just to make ends meet. When companies ignore their P&Ls over time they eventually go bankrupt and are consumed by their competitors. If we choose to ignore our family’s P&Ls then over time we will grow into dysfunctional money traps that are robbed of our future and exposed to dangerous and painful risks.