7 Reasons you need a Cash Flow Forecast
- Planning Frees Us from Stress
- A Forecast Provides a Benchmark
- A Forecast Helps Us Invest in Our Business
- Forecasting Aids Learning
- Forecasting Can Prepare Us for Different Scenarios
- A Forecast is a Decision-Making Tool
- Our Cash Flow Forecast is Our Business Idea Acid Test
Every business needs a Cashflow Forecast in good times and in bad.
This article outlines 7 reasons you need a cash flow forecast, explains the importance of cash flow projections and also describes the advantages of ensuring you have good advice when it comes to cash flow forecasting and planning for business success.
Reasons You Need a Cash Flow Forecast–in Good Times and Bad
Cash is oxygen for a business.
If we can pay our bills, we can carry on. If we can’t, it’s over.
Business success relies on knowing what cash we will need and where it will come from.
Whether launching a new venture, growing an existing business, or surviving a recession, we need to know how we will pay for it.
A cash flow forecast is our primary cash management tool. This article explains what a cash flow forecast shows us and why we should have one.
What a Cash Flow Forecast Shows Us
A cash flow forecast projects all sources of money coming in, money going out, and the resulting bank balance.
It highlights whether we can pay our bills, and if not, when we will fall short.
A forecast typically covers one to three years with the immediate year split into months.
Each month shows the opening bank balance, inflows, outflows and the closing bank balance.
Money coming in includes:
- Trading revenue – from sales of products and services
- Personal funds introduced
- Loan advances
- Tax refunds
Money going out includes:
- Business expenses
- Personal drawings
- Loan repayments
- Tax payments
- Equipment purchases and other investments
Here are Seven Good Reasons to Have A Cashflow Forecast
1. Cash Flow Planning Frees Us from Stress
A cash flow forecast is a timeline of future cash flows.
Plotting our future inflows and outflows empowers us to plan with confidence. A forecast highlights challenges months in advance, giving us time to deal with them.
Looming tax bills and other financial commitments are a persistent burden on business owners. The closer we get to a deadline before addressing them, the less options we have, leaving us stressed and reactive.
2. A Cash Flow Forecast Provides a Benchmark
We need to track our results, but our numbers only become meaningful when we compare them to something.
Comparing actual results to our forecast will quickly highlight when things are or are not going to plan, so we can work out why.
If we forecasted a bank balance of $50k and our actual balances is $8k, what is going wrong?
Maybe our debtors are not paying, and we need a better credit control system.
Maybe some expenses have blown out, and we need to restructure our costs.
Prompt feedback leads to prompt and effective decisions.
3. A Forecast Helps Us Invest in Our Business
Maybe we need new equipment or another team member, but are procrastinating, unsure if we can afford it.
Forecasting the cost will show how and when we can fund it, enabling a confident decision.
4. Forecasting Aids Learning
It is easy to keep doing what we have always done and missing growth opportunities.
A forecast is built on assumptions. The exercise of working through these assumptions helps us better understand how our business generates profit, leading to valuable insights and more informed decisions.
E.g., a forecast showing minimal surpluses may highlight a lack of profitability in our service offerings. This could lead to a refocus from low value services to higher value services and a more profitable business overall.
5. Forecasting Can Prepare Us for Different Scenarios
The point of forecasting is not to predict exactly what the future holds. Who knows what we will face?
But a forecast can prepare us to deal with different scenarios. With a best guess forecast in place, it is easy to play round with our assumptions and see the outcomes.
It can be helpful to have an expected forecast as well as a best-case and worst-case scenario.
Our best-case scenario could involve reaching a 50% growth goal this coming year.
If this happens, our forecast may highlight the need to increase capacity with more office space or a new team member. Growth requires capital so we need to factor in the new investments and funding options.
Our worst-case scenario could involve a deep, lasting recession.
Maybe clients would cancel 25% of their orders, and the remaining clients take twice as long to pay.
What would this do to our bank balance? Armed with this forecast, we can create a scenario contingency plan of cost reductions and finance raising.
6. A Forecast is a Decision-Making Tool
Making decisions without evaluating the likely consequences is just business by guesswork.
How much better would it be to see the financial impact of our decisions before we make them? Our cash flow forecast is our tool for this.
While we can never have 100% certainty, forecasting can greatly reduce the risk of making bad decisions.
E.g., we may be considering buying new equipment. Our forecast could answer these questions:
- Will the long-term cost savings or additional revenue from the equipment exceed the cost?
- Can we fund the cost from ordinary business cash flow?
- If we borrow to pay for it, can we cover the finance costs?
There is no limit to the “what-if” analyses we can put into our forecast model.
7. Our Cash Flow Forecast is Our Business Idea Acid Test
Friends are great for emotional support when taking on new challenges.
Forecasts are far better for non-emotive, objective feedback. Our forecast will tell us whether our idea makes business sense.
A colleague of mine used to teach a business planning course where budding entrepreneurs created a comprehensive plan for their business idea.
I would help with the final module – financial projections. This involved quantifying their plans in a three-year forecast. An eye-opening experience for most.
Many were shocked with the results.
They might start their forecast with big ideas of providing jobs for their whanau for life, selling $2 coffees from a van.
It sounds great until their forecast tells them they’ll be broke by Thursday.
This feedback would invariably result in a valuable reality check and a better plan, far more likely to succeed.
If you want to take your business beyond guesswork, a forecast may be the best place to start.
We are experts at analysing businesses and putting together cashflow forecasts.
We’d love to work with you to create a customised Cash Flow Forecast for your business. We’ll also teach you how to use this essential tool for your business.
Contact us if you would like our help.
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