A cash flow forecast will show you and your management team what your cash position is likely to be over the coming months. It can be created in a variety of ways – for example, using a traditional computer spreadsheet, an app or online accounting system – but no matter how you do it, it does not need to be complicated.
Why create a cash flow forecast?
Depending on the maturity and complexity of your business, sometimes a simple diary or Excel spreadsheet can give you the insights you need. What’s more important than the system you are using, is the information you put into it.
Top tip: Start simple. Look at what revenue you are forecasting over the next three months and what the overheads and cost of sales are likely to be. It’s better to have a system in place, however imperfect, than to ignore potential problems that may lie ahead.
In times of uncertainty, business owners and management teams need to be able to accurately predict their cash position over the months ahead. Your business advisor, accountant or corporate finance advisor will be able to assist if you need help in preparing a detailed financial model or cash flow forecast.
Typically, you should consider:
- What is the forecast turnover by month (or maybe weekly or daily for a retail business)?
- What is the cost of sales forecast – raw materials, labour and other costs?
- How long do you take on average to pay suppliers?
- How long do customers take to pay invoices on average?
- How much stock or inventory needs to be held?
- When is rent due?
- How much money (capital expenditure) is spent monthly on acquiring or maintaining fixed assets such as land, buildings, machinery and other equipment?
- How much will you spend on research and development, PAYE/NI, VAT and loan repayments?
Revisit these inputs and assumptions on a regular basis and review them closely when a business is going through change.
The implications of inventory levels on cash flow are explained below, and other actions on cash can be viewed here.
Inventory levels and cash flow
The risk of understocking
If you decide to understock and just buy the raw materials or finished goods that you need, it is likely to improve cash flow, as you are only paying out for what you need right now. This means that the business has more cash available to cover operating costs and to respond to change or uncertainty.
However, this runs the risk that stock will not be available to meet customer demand and makes the business less adaptable to shifts in demand.
The risk of overstocking
On the other hand, it is important not to overstock. Preparing too much, filling warehouses with raw materials or stock that may not be required, become obsolete or go out of date (such as food items, chemicals, fashion items or fads), can tie up a lot of cash that could be used to cover operational costs.
Imagine gambling on the price of raw materials, import duty or interest rate changes and buying a warehouse full of sugar, only to discover that the price has halved in subsequent weeks.
A lack of cash can make the business inflexible. Without available funds you may be unable to respond quickly to opportunities, which may be vital for growth, especially in a competitive or fast-moving sector.
Top tip: Use cash forecasting tools to model different scenarios, consider the risks and develop a plan that’s right for your business.
Useful links
Finance at every stage
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