How to Do a Cash Flow Forecast

Monitoring your cash flow and profits and losses is one thing, but what can you do to make forecasts about the future liquidity of your company?

One of the best ways to plan ahead, especially for small business owners, is via a cash flow forecast.

In the following sections, we explain what this term means and show you how to do a cash flow forecast for your business. 

What Is a Cash Flow Forecast?

Before we show you how to create a cash flow forecast, it’s fundamental to understand what cash flow is in the first place.

In short, cash flow shows the money coming in and cash coming out of a company’s bank accounts over a specific period. 

A cash flow forecast, therefore, is a prediction that demonstrates how much cash your business expects to receive and pay over a selected period. Usually done for the year ahead, the cash flow forecast is a core component of financial planning and is essential for any business. 

Why Is a Cash Flow Forecast Important?

A cash flow forecast helps companies manage their working capital better and is a vital element of the business plan. Creating predictions about future cash flow is essential for any business as it shows how much capital the company will need in the future.

Cash flow forecasts are especially crucial for new businesses, fast-growing companies, and organizations with unpredictable sales patterns (like seasonal businesses). 

There are several benefits that cash flow forecasting offers.

As a core part of cash flow planning, this document helps identify areas of the business that are either overperforming or underperforming. This is achieved via comparisons between actual income and expenses with prepared forecasts. 

In addition, this information enables budgeting for inventory or equipment investments. It also determines whether or not the company needs loans to cover such expenses, which can be important for tax preparation purposes.

Moreover, cash flow forecasting can come in handy when making plans for company changes. For instance, you can add the projected salaries of new employees you plan to hire to see how they will influence your company’s financial stability.

Finally, one of the most powerful abilities of the cash flow forecast is to help uncover cash flow issues that may arise as a result of business activities or changes. When prepared accurately, this document can detect potential cash shortages and possibly prevent payment defaults.

Key Components of a Cash Flow Forecast

This document comprises three core components – projected sales or projected income, projected payment timings, and projected costs. 

We cover projected sales and projected costs later on when discussing how to do a cash flow forecast. When it comes to projected payment timings, it’s important to make a note of the time when you expect to receive or make payments when creating your forecast. 

We’ll go over this in the next sections too. 

How To Do a Cash Flow Forecast Step-by-Step

Below, we offer a step-by-step process that will help you craft an accurate cash flow forecast for your company. 

Step 1: Choose a Forecasting Period

First, it’s important to think about how far you want to plan for and choose a forecasting period. There are no rules and you can decide to plan for anything from a few weeks to years. What’s key to note is that you should plan ahead for a period that you can accurately predict. 

Larger companies with more experience usually have a huge amount of data available to make predictions. They can work with previous years’ figures to create forecasts and have regular processes in place that offer certainty. On the other hand, new businesses often lack such information and are limited to making shorter forecasts about cash flow. 

Regardless of how much data you have available – don’t worry. Your cash flow forecast can change and adapt over time to offer more exact predictions. 

Step 2: List all of your cash inflows

Next, list all the cash projected to enter your business for each week or month in your cash flow forecast. To keep things organized, make a column for each week or month and a row for each type of income.

Begin by listing down all of your sales, adding them to the appropriate week or month. You can make your sales predictions using previous years’ data or activities and processes you have in place to generate sales. 

What’s important to understand is that this section is all about when the money will reach your bank account. Record the sums in the sections that represent the weeks or months when the clients are expected to pay invoices or when bank payments are due to clear. 

Don’t forget to factor in non-sales income, like tax refunds, grants, royalties or licence fees, and investment from shareholders and owners.

Calculate your net income by summing up all of your cash inflow columns.

Step 3: List All of Your Cash Outflows

The third phase of your cash flow forecast creation is dedicated to all your outgoings of all the money that’s leaving your company in the form of expenses. In a similar manner to the previous step, create a list organized in columns of all the money you’re planning to spend.

This section should include fixed costs and variable costs:

• Fixed costs – remain the same on a monthly basis, no matter how much the business generates. Fixed costs could be things like rent and staff salaries. Make a note of the dates and projected amounts, factoring in bills, fees, memberships, and tax payments.
• Variable costs – change based on the money the business generates in the form of sales. These could include stock or raw materials.

When making your forecasts, don’t forget to factor in any seasonal increases in marketing spend during holiday seasons.

Once you’ve outlined all of your projected spending, add up the total for each column, which will give you the net outgoings for the given period. 

Step 4: Calculate Net Cash Flow

After you’ve calculated your projected income and expenses for each week or month column, take away your net outgoings from your net income to get your net cash flow figure.

You’ll either see a positive cash flow figure (meaning that more cash is coming in than leaving the company) or a negative cash flow figure (meaning that the company is spending more than it is earning).

This stage will help you identify the period when you’re generating more cash and those where you’re spending more than you’re taking in. As a result, you’ll be able to properly prepare for these changes to stay liquid and financially stable. 

Step 5: Track Running Cash Balance

Next, you can track your running total from week to week or month to month. This will let you gain an overview of your running cash flow forecast over time. 

If you’re noticing a lot of weeks with negative cash flow, this may mean that corrective action is a must. In such cases, forward planning can dramatically help ensure you’re meeting your commitments and you’re able to cover upcoming expenses.

At the same time, consecutive months with a positive cash flow often mean that you’re doing well and you can even think about company expansion or significant investments. 

Step 6: Review and Adjust

Finally, make sure you compare forecasted cash flows with actual figures or actual cash flows on a regular basis. This will help you see whether your assumptions were right and whether you need to make any changes to prevent cash balance vulnerabilities. 

Update your forecast every time conditions change, for example, if you have any new contracts or unexpected expenses. 

Tools and Tips for Effective Cash Flow Forecasting

Preparing cash flow forecasts manually can quickly turn into chaos. To avoid this, use proven tools for forecasting.

For example, one important tool (and accessible to all) is the spreadsheet. Spreadsheets are simple, easy-to-use, and customizable, making them extremely valuable for small businesses.

There are also accounting software solutions that offer automated forecasts based on real-time financial data. Investing in such products can help you save time and manual labor, and avoid human mistakes. 

In addition to acquiring helpful tools, you can also prepare yourself for accurate forecasting with tested and guaranteed best practices.

Some of these include:

• Use past data – leverage previous years’ figures that will help you make more accurate predictions.
• Plan for contingencies – include a buffer for unexpected expenses or income delays. Make sure that you’re always on the same page with customers regarding payment terms (including accepted payment methods, payment dates, payment delay fees, and more).
• Regular updates – keep forecasts up to date with recent data and market conditions.
• Segment by categories – break down inflows and outflows into detailed categories for clarity.
• Monitor key metrics – track working capital, net cash flow, and cash balance trends.

By incorporating these best practices into your cash flow forecast process, you’ll be able to improve accuracy and be prepared for any situation.

Common Challenges in Cash Flow Forecasting

Naturally, there are several challenges that can arise during cash flow forecasting.

Here is what to expect and prepare for:

• Inaccurate Estimates – overestimating revenue or underestimating expenses can lead to misleading forecasts. Although it’s extremely difficult (if not impossible) to have forecasts with 100% accuracy, the closer they are to reality – the better for your decision-making and actions. Use conservative estimates and regularly validate against actual data to make your cash flow forecast as precise as possible.
• Timing Mismatches – delayed payments or unexpected costs can severely disrupt cash flow. This is why it’s fundamental to include realistic payment terms and monitor receivables closely.
• Lack of Regular Monitoring – it’s vital to ensure you monitor your forecasts on a regular basis. A static forecast becomes obsolete as circumstances change. And let’s face it – in the business world change is inevitable. To prevent this issue, schedule periodic reviews to refine and adjust the forecast.

If you recognize these challenges, this will allow you to address weaknesses before they impact your finances. With a proactive approach, you can minimize risks and improve the accuracy of your short- and long-term forecast.

Conclusion

In conclusion, the cash flow forecast is a valuable piece of information that can prepare small and large businesses for upcoming expenses. It’s a powerful tool to manage business finances, ensuring liquidity and planning for growth. 

Using this guide on how to do a cash flow forecast, you can predict your company’s cash flow and make data-driven decisions that will take you to new heights. 

Frequently Asked Questions

What’s included in a cash flow forecast?

The cash flow forecast consists of expected income, expected costs, and expected dates for when money will be coming in or leaving the company.

Is there anything you can do to make your cash flow forecast more accurate?

Yes, there are a variety of best practices that can help you make your predictions more accurate. Some of these include making comparisons with previous periods, making adjustments on a regular basis, and more.

What is a cash flow forecast template?

A cash forecast template is a useful tool used to quickly and easily create forecasts. They usually come with sections on income, expenses, and net cash flow. You can find cash flow forecast templates online for free or via advanced accounting software solutions and other tools. Anyway, creating your own cash flow forecast document will allow for better personalization.