Cash Flow Forecasting and Budgeting: What You Need to Know

June 2021

Timing is critical in business, and unforeseen shortfalls in your cash position can be detrimental to operations and morale. Cash flow forecasting, driven by historical accounting data and your own understanding of the rhythm of your business, could be the key to helping you see around corners months in advance.

Tools of the Forecaster’s Trade

Cash flow forecasting involves a multitude of data derived from sales, payroll, receivables, inventory, and payables. Given the myriad variables and components, the process can overwhelm even those who are familiar with the process. Fortunately, there are resources to help you tackle the job:

> Online Templates. Web-based templates, though somewhat limited, are widely available and will guide you through the manual process of entering your data in the simplest of terms.
Examples: score.org, SBA.gov, Google Docs

> Software Add-ons. Cash flow modules available with your accounting software package are more automated, allowing you seamlessly apply historical financial data to sales, receivables, and payables.
Examples: QuickBooks, Xero, FreeAgent

> Customizable Systems These personalized programs will import your unique financial data from the company’s existing accounting system to generate robust forecasts and will permit you to toggle parameters to explore different what-if scenarios. Some forecasts are sharable online, allowing multiple users to collaborate in real-time.
Examples: Float, Dryrun, Pulse

Maximize Your Forecasting Accuracy

Enhance the reliability of your cash flow projections by following these simple guidelines:

> Timing. Apply two years of historical data to your forecasts and project only 12 months in the future.

> Variables. Look beyond fixed costs to include fluctuating expenses (i.e., quarterly taxes, insurance premiums, seasonal inventories and sales variations, months with three payrolls).

> Assumptions. Make educated assumptions based on knowledge of your business. For example, use an average number of days your customers pay invoices to determine influx of cash and remember that cash flow depends on paid sales, not just contracted sales. 

> Comparisons. Maintain an iterative, rolling 12-month projection to continuously identify variances in data.

Plan to Protect Cashflow from Unexpected Interruptions

Economic uncertainty can confound even the most carefully crafted forecasts, causing a thriving small business to suffer. Without a sufficient, reliable stream of revenue to pay expenses, a business caught off-guard can quickly go into the red, making it difficult to recover.

While you can’t control the financial markets or consumer habits, you can take steps to increase income and reduce operational expenses by crafting a thoughtful and detailed budget that can help protect you from the unexpected. Here are four budgeting best practices to consider adopting today:

1. Understand and Prioritize Sources of Business Income – In building your budget, it’s critical to understand how much income you should expect each month from your core products and services. This understanding will help you promote products with a strong track record of income generation and potentially shelve your weaker performers to maximize cash flow.
2. Proactively Revise Payment Terms – Managing accounts payable and receivable can be a delicate balancing act. By reviewing and updating these terms as part of your budgeting process, you can identify opportunities to expedite incoming payments and potentially delay outgoing expenditures, leading to a more favorable ongoing cash flow scenario for your business.
3. Categorize and Prioritize Expenses – Identifying your fixed and variable expenses is the first step to reducing them. List expenses by category so you can see how much you spend each month or quarter. It’s a good practice to run as lean as you are comfortable with to maximize your cash reserves.
4. Budget for Contingencies – Don’t let unexpected expenses further harm your business. Instead, plan for them. Even during tough economic times, continue to set aside a percentage of your profits each month to fund these contingencies.

To learn more and to download an in-depth white paper on this topic, click here.