08 August 2022

The Importance of Cash Flow Forecasting for Your Business

close-up-on-female-hands-making-calculations-youn-2022-08-01-01-19-31-utc

When you start a business, there is so much you need to consider, from certifications and insurance to a good understanding of your finances. We created a guide to take you through what you’ll need to set up a limited company; now it’s time to move on to the financial side, which again we can help you with.

We can’t help you make money, but we can provide you with cashflow forecasting software to help you manage your business’s money that little bit easier.

What is cash flow?

Cash flow is essentially the net amount of cash entering and leaving a company. Inflows of cash are represented by cash received and outflows by money spent. Creating positive cash flow is essential for a company’s value creation. You’ll need to find an alternative source of income if you have a negative cash flow.

Calculating net cash flow is as simple as adding up all your cash payments and subtracting them from your cash receipts over a set period (typically a month). Getting too caught up in one month is not a good idea unless you have serious cashflow issues. Since most businesses experience peaks and troughs naturally, you’d normally look at a 13 week rolling forecast alongside a forward looking projection in line with an annual budgeted P&L and balance sheet.

Cash flow gives you a much more accurate picture of how well your business is doing than turnover. ‘Turnover is vanity, profit is sanity, and cash flow is reality’, according to the old saying. Using cashflow software such as the Clearview Forecasting Tool enables you to project your long term cash flow position quickly and easily, without the need for calculators!

Why do businesses forecast cash flow?

At the end of a month, your company’s profit does not necessarily indicate how much cash your business has coming in.

Without the use of a cashflow forecasting tool, it would be nearly impossible to calculate how much money your company will have. The situation can become even more tricky if you include wages, payroll taxes, VAT, corporation tax payments, loan repayments and other overheads!

Making informed business decisions, planning for change, and growing your business is almost impossible without forecasting your cash flow.

What are the advantages of a cash flow forecast?

Allows you to prepare for cash shortages

Businesses can benefit significantly from an effective forecasting process. Cash forecasting has never played a more critical part in the financial fitness of a company. As we witnessed with the effects of COVID-19 and other recent economic uncertainties, companies often operate with little room for error. A cash forecast can help your business predict possible cash shortfalls and prepare you for any funding requirements.

Cash flow forecasts can also give businesses the time to implement corrective actions such as rethinking payment and collection strategies, liquidating assets, or sourcing financial lenders. On the other hand, as well as enabling businesses to mitigate the effect of a cash shortage, forecasts can help predict a positive surplus.

Manage surplus cash

As mentioned above, making use of financial forecasting software can also help you to predict if your business will have a surplus of cash.  Companies must leverage forecasts and put surplus cash to work, whether they invest it, purchase new machinery, expand their premises or use the money to expand the team. The scenario planning process can assist enterprises in forecasting the impact of specific investments or decisions as they look to allocate excess money.

Keep track of your spending

Time-sensitive revenue goals and targets are a part of every business. In the end, forecasting cash flow can help business owners know when and if their goals will be reached. Forecasting enables you to identify the breakdown and result of your budgeting. Whether over or under budget, seeing the movement of cash into and out of your business can help increase future budgeting accuracy.

What are the disadvantages of a cash flow forecast?

It isn’t 100% accurate

Cash flow forecasting, like any forecast, is entirely based on predicted estimates and probabilities; because of this, plans become less exact as they advance into the future. These forecasts also don’t have the ability to consider changes in the marketplace, changes in customer needs, or new issues that reduce the value proposition of a product or service.

Potential false sense of security.

A significant disadvantage of cash flow forecasts is that they can create a dangerous illusion of financial security. It is not uncommon to be overly optimistic about this data, leading to decreased productivity or failed monitoring activities. To determine how close your predictions are to reality, compare your cash flow forecasts with the actual results for each evaluation period.

Unexpected Factors

A company’s cash flow forecast can be impacted by external factors, skewing the forecast. Cash flows need to be changed quickly if there is a strong competition or if there are excessive government regulations. Changes in technology may also be an unanticipated factor. As a result of these unforeseen factors, organisations will have to adjust their cash flow estimates.

How can I create a cash flow forecast?

Creating a cash flow forecast in a spreadsheet is time-consuming and difficult, especially for someone who has not done it before. It is possible, however, to make cash forecasting easier with cloud-based software Online tools are invaluable for actionable and efficient planning, saving time and money and Clearview offers integrated financial forecasting with a forecasted cashflow, P&L and balance sheet from one set of data.

We understand that it can sometimes be overwhelming when you’re faced with all of these figures for the first time, so have created the option to see our demo company first, to enable you to ease yourself in with example figures. Alternatively, we have a cashflow challenge in which you can alter the business’s forecast to see how the business can generate £1,000 over three months.

If you have any questions on starting a business, growing your business or cash flow forecasting, please visit our business resources area or get in touch with our partner Porterdale Business Consultancy.