Cash Flow Forecasting Is Your GPS
I was sharing in a workshop this afternoon on Finance 101 for business owners, and someone asked which is more important – Budgeting or Cash Flow forecasting ?
My response was both are equally important to a business owner. No point having done a good Plan but ran out of Cash at some point later, only to face survival issue !
Let me explain…
* Cash flow is the life-blood of all businesses—particularly start-ups & small enterprises
* Cash Flow Forecasting is a key aspect of financial management of a business, planning its future cash requirements to avoid a crisis of liquidity
* Cash Flow Forecasting is important because if a business runs out of cash and is not able to obtain new finance, it will become insolvent
* As a result, it is essential that management forecasts (predicts) what is going to happen to cash flow to make sure the business has enough to survive
* How often management should forecast cash flow is dependent on the financial security of the business. If the business is struggling, or is keeping a watchful eye on its finances, the business owner should be forecasting & revising his or her cash flow on a daily basis.
* However, if the finances of the business are more stable & ‘safe’, then forecasting & revising cash flow weekly or monthly is enough.
* Here are the key reasons why a cash flow forecast is so important:
a) Identify potential shortfalls in cash balances in advance—think of the cash flow forecast as an “early warning system”. This is, by far, the most important reason for a cash flow forecast.
b) Make sure that the business can afford to pay suppliers and employees. Suppliers who don’t get paid will soon stop supplying the business; it is even worse if employees are not paid on time.
c) Spot problems with customer payments—preparing the forecast encourages the business to look at how quickly customers are paying their debts. Note—this is not really a problem for businesses (like retailers) that take most of their sales in cash/credit cards at the point of sale.
d) As an important discipline of financial planning—the cash flow forecast is an important management process, similar to preparing business budgets.
e) External stakeholders such as banks may require a regular forecast. Certainly, if the business has a bank loan, the bank will want to look at the cash flow forecast at regular intervals.
* In the context of entrepreneurs or managers of small and medium enterprises, cash flow forecasting may be somewhat simpler, planning what cash will come into the business or business unit in order to ensure that outgoing can be managed so as to avoid them exceeding cashflow coming in.
* Entrepreneurs need to learn fast that “Cash is king” &, therefore, they must become good at cashflow forecasting.
Methods
* The simplest method is to have a spreadsheet that shows cash coming in from all sources out to at least 90 days, & all cash going out for the same period.
* This requires that the quantity & timings of receipts of cash from sales are reasonably accurate, which in turn requires judgement honed by experience of the industry concerned, because it is rare for cash receipts to match sales forecasts exactly, & it is also rare for customers all to pay on time.
* These principles remain constant whether the cash flow forecasting is done on a spreadsheet or on paper or on some other IT system.
So, start this discipline immediately of doing cash flow forecasting.
Cash forecasting is like a GPS to a business owner.
A business owner, being in the driver’s seat, looks ahead. He needs to be able to anticipate roadblocks, turns & bends ahead, to slow down or to accelerate.
The fate of all passengers in the car would depend very much on this business owner ( at the driver’s seat ) who will be good at doing this at his best.
Pick up, Look up and ahead, Start doing it now.
Good luck !
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