Did you know? The most common reason for startup failure is running out of cash? 

 

Now, you might be rolling your eyes: why does that have anything to do with me? True. Buoyed by your success, you never felt the need to project and document cash flow. But….what if one day you do receive that big order from that dream client you’ve been courting for months and you take the order? Yet after contacting your suppliers, you realize you can’t place the order because the money you have in the bank has already been allocated to other things: payroll, rent, tax, insurance, software subscriptions, and delivery services. And your two biggest clients are two months late on their invoices. What will you do then?

 

This isn’t just a cautionary tale. We see it time and time again in our line of work. Cash flow impacts 29% of all businesses, regardless of their size or stage of growth. But hopefully, you don’t have to turn down a dream client. Because you realize cash flow forecasting is an essential part of running a business and always have it in place. Here are some helpful tools to set up this process. 

• What’s a cash flow forecast?
• What elements/components to include in the forecast?
• How to get started?
• How to take it further?

First, what is a cash flow forecast?

 

Cash flow forecasting is the process of estimating the amount of cash going in (inflow) and out of (outflow) your business over a period of time i.e. four weeks, thirteen weeks, six months, a year, etc. You might have money in the bank. Yet due to the volatility inherent to a business, having money in the bank isn’t enough. Here are four reasons an accurate cash flow forecast is valuable, especially when your company is growing. 

1. It ensures that projected cash flow is made based on your actual cash position.
2. Historical cash flow data gives you a clear view of the financial health of your business and its growth potential.
3. Keeping detailed and accurate cash flow reports help companies prepare for cash shortages and take action before it’s too late. This is particularly important for small businesses.
4. Accurate forecasts help business owners and stakeholders predict future income, determine priorities, make informed decisions on how much to, or not to, spend on what and when, cope with unexpected circumstances, and earn returns on cash surplus. 

 

Cash flow forecasting usually is the responsibility of a company’s financial team. However, when a company is small, the business owner or a partner might need to do it. We work with our clients to break down this lengthy process into small and manageable parts to make it less daunting, easily understood and implemented.

What elements/components to include in your forecast?

 

The bigger the organization, the more complex the reports will be. But some basic elements should be included in all reports.

 

• Cash on hand (opening balance)
• Short-term receivables
• Projected revenue opportunities and their cost
• Recurring (payroll, subscriptions, rent, insurance, tax etc.) business expenses
• One-time expenses
• Debt, if any
• Closing balance

Forecasting period

 

To ensure that your cash flow forecasts give you and your team actionable insights on business planning, it’s essential to factor in the forecasting period. Here are four types to start with:

• Short-term: short-term forecasting is used to manage the day-to-day cash needs of a business. It looks two to four weeks into the future. It consists of the daily breakdown of cash payments (office supplies, petty cash expenses) and receipts. Its granularity and straightforwardness allow decision-makers and employees to see the impacts of their actions. It also ensures that key stakeholders take measures for a business to meet its financial obligations in the long run.

 

Short-term forecasts are more important to small businesses: they need to know how much they have on hand to keep the business afloat since they often don’t have as much credit to cover expenses. 

 

• Medium-term: medium forecasting looks two to six months into the future. The most common forecasting period is thirteen weeks. Medium-term forecasts are useful to companies with debts. These companies need to plan interest and debt reduction accordingly.
• Long-term: long-term forecasts look six to twelve months into the future. It usually is the starting point of a company’s annual budgeting process. It can serve as the benchmark of a company’s long-term growth strategies.
• Mixed-term: mixed-term blends the granularity of short-term and the planning purpose of long-term forecasts. It gives you the forecast for four weeks and then the next six months. 

How to Get Started?

 

Does cash flow forecasting sound like something valuable? Want to get started right now? There are several Financial Planning and Analysis (FP&A) tools out there. But you can start small with an Excel or Google sheet in a few steps:

1. Cash inflow forecast for the next four weeks – Project your sales based on past trends, seasonal fluctuations, current orders, and expected new clients. Make notes on when you will or should receive payments.
2. Cash outflow forecast for the next four weeks – List regular business expenses i.e. rent, utilities, payroll, contractors, and supplies, making note of their due dates.
3. Cash flow tracking – On a Google Sheet, start writing down your income and expenses. It’s simple but very useful. It can also be modified to suit your needs easily.
4. Filling the gaps with a credit line: We’ve discussed a business line of credit before. While some businesses decide never to take a business line of credit if your business just needs to make it through until its peak season, a business line of credit isn’t a bad idea. Factoring in this line of credit can help you decide whether or not it’s the right move.
5. Setting up payment reminders: Set up late payment reminders and follow up with phone calls when the payment is more than ten days late. 
6. You can use your accounting software and bank accounts, to source data.
7. Expand the report: As you start to see the value of a short-term forecast and decide to explore the potential of more complex reporting, you can make long-term forecasts and let them guide your business decisions i.e. professional associations to join, marketing and advertising spending, software to buy, numbers of new employees to hire, growth strategies to invest in and so on.

Take it further

 

By this time, you should have at least one spreadsheet with your business cash inflows and outflows on it. You update it daily to have a solid idea on the cash needs of your business. But cash flow forecasts can do much more than that.

 

To maximize the value of a cash flow forecast and let it guide your business decisions, it’s important to list a few business objectives. What do you want to achieve for your business in a given time frame? Is it debt/interest reduction? Is it to increase short-term cash on hand? Is it growth?

 

After you select your area of focus, pick a time period and start forecasting. By now, you should have two spreadsheets: one short-term and one long-term.

 

The short-term spreadsheet is a report that reminds you of the day-to-day financial health of your business. While the long-term spreadsheet is more for projection and budgeting purposes. 

 

As your business grows bigger and bigger, your forecasts will become lengthier and more complex. That’s when you need to take further steps, i.e. using software, hiring a financial team, etc. to make sure your forecasting process is accurate, robust, and with built-in accountability. A strong forecasting process indicates strong fiscal discipline and is a predictor of a company’s long-term success. Don’t take it lightly.