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Preparing a cash flow forecast

Preparing a cash flow forecast

Cash is king

As we briefly discussed in our blog Improving small business cash flow, cash is the life blood of small businesses.

As small business accountants in Kent we work closely with businesses to ensure that cash flow challenges don’t become major issues or problems.

Businesses don’t become insolvent and stop trading because they are making a loss - they do so because they can’t generate sufficient cash flow to pay their bills as they fall due.

Beyond concerns regarding solvency and continuing to trade, cash flow problems mean lost opportunities and sleepless nights for small business owners. Cash flow is the number one reason given by the owners of small businesses in Kent for stress, family problems and simply giving up.

We are firmly of the belief that there are lies, damn lies and cash flow forecasts - you will never achieve what you forecast. You will either do better, or worse, but never spot on (unless you’re monstrously lucky!).

However, we are also believe that a well prepared, up to date and simple cash flow forecast is invaluable in making small businesses more successful and more enjoyable to run.

Benefits of a cash flow forecast

Firstly you will feel more connected with your business finances. Your understanding will improve immeasurably and you will find yourself being able to actively take steps to improve your cash flow. 

Cash flow forecasting is all about understanding and identifying trends. 

Small businesses that find themselves in financial stress and experiencing cash flow problems may feel that the onset of these issues is quick and the problems acute.

The reality is that this is seldom the case. 

A cash flow crisis can be acute - a large bad debt suddenly crystallising or a major supplier failing (yes, cash flow problems can be supply side generated as well as customer side - when was the last time you credit checked your key suppliers?). But generally this is not the case. 

As small business accountants in Kent we find that cash flow problems tend to build gradually over time - and that they often could have been headed off and dealt with much earlier.

Having access to an up to date, robust forecast allows you to identify those trends that, if left unchecked, can result in seemingly acute problems.

Stopping trends developing is far easier than trying to reverse them once they are established and having a cash flow forecast allows you to call for help and advice early. Asking for assistance early is far more effective and significantly cheaper than calling in professional help later on. 

It’s the intervention rather than cure argument.

Keep it simple

Small businesses can make their cash flow forecast as complicated or as simple as they like. 

Naturally the nature of the business and the way that it operates will dictate, to a degree, the complexity that is needed but we suggest your day to day management forecast should be simple and straightforward.

Keeping it simple means you're more likely to keep it up to date and relevant. And that is where the real power can be found.

It is always possible to ask us to create a more complex and revealing forecast if the need becomes necessary - if you need to raise finance or are looking to sell your business for example. But our message is clear - keep it simple.

A basic cash flow forecast will take literally a couple of hours to prepare and will not require much in the way of skills - a basic understanding of spreadsheets is all that is needed.

It will then only need a few minutes each week to update and keep live.

Prepare your own cash flow forecast

This is not as daunting as you may think - and don’t forget that you can always contact us to carry out a sense check or to chat it through.

You need a simple spreadsheet that details (on a monthly basis) cash in and its sources with cash out and how the 2 numbers affect your bank position.  We have included a basic example below that you can download to get yourself started.

Remember, the key is to put something in place that you can improve and finesse as you move forward. 

Don’t try and get to the finished article first time round.

Step 1 - Base numbers

Ideally you need your forecast to be on a month by month basis.  Start by using the accounts for the last year to ‘seed’ the monthly numbers.  If you only have annual accounts then divide these by 12 to give a reasonable starting point.

Step 2 - Seasonality and known adjustments
Now you have your base numbers for 12 months you need to amend and adjust them (known as ‘flexing’). Ask questions such as:

  • Was there a large order last June that won’t repeat?
  • If the base numbers are simply annual numbers divided by 12 do they need adjusting for seasonality?
  • Did we recruit someone last year that that means anticipated salaries might be too low for the first few months?
  • Did we launch a marketing campaign that we won’t repeat?
  • Did we buy/sell equipment that won’t happen this year? 
  • Do we need to replace equipment this year?

Step 3 -  Assumptions
Make a bullet list of your key assumptions:

  • How quickly will customers pay you?
  • How quickly will you pay your suppliers?
  • Is the VAT rate going to remain constant?
  • What will interest rates do?

Having a good list of assumptions allows you to understand why your forecast is wrong (which it will be!) and then allows you to improve and finesse. 

Remember - there are lies, damn lies and cash flow forecasts - your forecast will never be 100% accurate - it needs to be good enough, not perfect.

How accurate do I need to be

This may surprise you but as small business accountants in Kent we would say not very!
Focus on getting a document that you can work with, improve and adjust over the next few months.

Something is better than nothing and, as we said earlier, this is partly about getting to know your business finances better.

This is why the assumptions listed above are key.

Understanding why something hasn’t happened as you anticipated is more important than understanding that it hasn’t happened. You can then update your assumptions and improve the accuracy and validity of your forecast.

Remember - keep it simple.

Keep it up to date

The best forecasts are what we refer to as ‘rolling’. That is to say they are kept up to date.

It’s part and parcel of why keeping it simple is so important.

We typically like to see forecasts that are reasonably accurate for the next 3 months, kind of accurate for the following 3 months and then just indicative beyond that.

As a guide we would suggest that as a small business owner you try to develop a forecast that is 85% accurate for the next quarter and around 70% accurate for the quarter after that. Thereafter 50% accuracy is acceptable.

Remember - you are not preparing a forecast for the bank, you are preparing it for you to help make running your small business easier and more enjoyable. 

Talk to us

ATN has already released its Budget 2021 Summary which is available free of charge by contacting the office (01474 326 224). Alternatively, visit the website; tweet @atnpartnership or email info@atnpartnership.co.uk.