Business leaders in small and mid-size businesses often have to wear multiple hats and make decisions in a variety of business disciplines. Financial decisions, however, must be handled with care as choices can impact whether or not the business remains viable. As business models continue to evolve, delivering financial insight requires more and more data collection and analysis. However, recent research has revealed that finance teams are also under significant pressure to deliver financial insight quickly and efficiently.
To make effective judgments, finance leaders must understand how to define, collect, and use important financial information in an efficient manner while still delivering relevant insight. This means business experts who might not have a background in finance must understand and communicate using key financial metrics.
Two important financial metrics to understand are revenue and cash flow, both key terms that are often erroneously used interchangeably by some business leaders. Here’s how these business metrics differ and why they’re important.
How Revenue and Cash Flow Are Different
Revenue refers to the amount of money that a business generates in total from all activities related to the company’s primary operations. Revenue should not be confused with sales as it’s a more comprehensive metric that considers more than a single form of income. It includes things like income generated by sales, interest, investments, or asset liquidation.
Despite its all-encompassing nature, revenue is often used as an indicator of the effectiveness of a company’s sales and marketing efforts. However, revenue can be reported differently depending on a company’s unique needs and focus. In the SaaS industry, many companies choose to use Annual Recurring Revenue (ARR) to measure how much income is generated directly from subscriptions to the business’s products and services.
Revenue does not take business expenses into account. This is why cash flow is another important metric that business leaders should be aware of. Cash flow refers to the amount of cash that is moved in and out of a business during a given period. This metric is a good indicator of a business model’s sustainability and financial viability in the long term.
Unlike revenue, cash flow can be a negative number. As much as possible, business leaders should attempt to keep cash flow positive so the company can use the excess cash flow to reinvest in the business and meet established financial goals.
Why SaaS Finance and Revenue Teams Must Understand These Differences
Rising Sales Numbers Can Create Cash Flow Challenges
It seems counterintuitive that rising sales numbers can create cash flow problems for SaaS businesses. However, SaaS businesses often use various payment models and sometimes provide access to software without receiving full payment in advance, which can create a large backlog of accounts receivable and result in a long list of debtors.
SaaS businesses that are in their early stages of development must understand how each new customer will impact revenue so they can share long-term forecasts with investors. Business leaders must understand how different payment models will simultaneously impact cash flow and short-term business viability—and how these indicators matter to decision-makers and investors.
Growth-Stage SaaS Companies Rely on Carefully Managed Cash Flow to Ensure Short-Term Business Continuity
In the early stages of business development, it's crucial that business leaders carefully manage cash flow to ensure they have the funds necessary to continue operating. As revenue generated from sales can take some time to reach a business’s bank account, it’s extremely important that business leaders optimize their use of funds generated by alternative sources such as capital invested by venture capitalists or angel investors.
SaaS businesses operating on negative cash flow often fail to procure the necessary equipment, talent, and operational systems needed to ensure business continuity in the short term. This is why it’s important to balance revenue and cash flow, especially in the early stages of a business’s development when they can’t be guaranteed.
Investors Expect Business Leaders to Distinguish Between the Metrics and Share Detailed Data on Both
Financial teams often use software to collect, organize, and share data with key internal and external stakeholders. 65% of businesses say that management reporting and analysis are a major priority during periods of digitalization. However, it is not enough for business leaders to rely on software to collect and organize data. Modern solutions can generate insightful reports that use key financial metrics to measure the financial health of a business, but investors still expect business leaders to understand what they reveal about the business. Investors also expect business leaders to know how to use those metrics to conduct data-driven decision-making, even if they do not have a background in finance.
How Insight Into SaaS Revenue and Cash Flow Can Build the Foundation for Sustained Long-Term Business Growth
SaaS businesses continuously generate a significant amount of financial data. This data can help business leaders and investors gain greater insight into business performance and sustainability. Analyzing and managing revenue and cash flow effectively can help finance teams highlight important parts of the business without creating information gaps for internal and external stakeholders. This empowers business leaders to make data-driven strategic decisions that help the business grow sustainably—while also giving them the data they need to communicate these decisions and their financial impact to stakeholders more effectively.
To learn how Place’s modern solution can help SaaS finance and revenue teams better understand metrics related to cash and revenue, schedule a demo with us today.