Cashflow SOS: What is a cashflow forecast?

Original article written by Isaac Rangaswami and published on Fluidly website (22.5.20)

In this second part of the Cashflow SOS series, Isaac Rangaswami from FLUIDLY, turns our attention to Cashflow Forecasting

 

Now that we’ve taken a closer look at what cashflow really means, we want to turn to its close relative – cashflow forecasting.

In less difficult times, you might use a forecast to inform your expansion plans, as you look to open a new location or hire new staff. But cashflow forecasting can help protect your business too.

You can use a cashflow forecast to predict when your business could run out of cash – so you can take action, like cutting costs or taking out a loan. Either way, a forecast allows you to make the decisions that count.

What is a cashflow forecast?

A cashflow forecast is an estimate of your business’ future cash position. It shows how much cash you expect to bring in and pay out over a set period of time.

If you’re a younger business, you might not have that much accounting data – so the further out you plan, the less accurate your cashflow predictions will be. To see what this all means in practice, take these two fictional car wash businesses:

Colin’s Car Wash: Colin has been running his business for about five years and he generally knows how much he’ll make each month. His overheads are pretty consistent too. Colin has been using accounting software for a number of years and he reconciles frequently.

Brian’s Car Wash: Brian’s been in business for six months and his sales are less predictable. He bought some new equipment last month and he’s currently applying for a loan. He uses accounting software, but not as diligently and his data doesn’t stretch as far back as Colin’s.

Both business owners can predict how much cash they expect to bring in and pay out, but Colin can forecast more accurately and further into the future. Why? Because his business is more established and he has more transactions recorded in his accounting software.

How does a cashflow forecast compare with the cashflow statement?

A cashflow forecast is different from the cashflow statement, which is one of the three key financial statements, alongside the balance sheet and the P&L.

Cashflow statements look at the past, showing you how and why the cash on your balance sheet has changed over the last year. Cashflow forecasts, on the other hand, are all about planning ahead.

How do you build a cashflow forecast?

You can create a cashflow forecast using a spreadsheet, but this can be time-consuming and involve a lot of manual work. As you might expect, the building blocks of a cashflow forecast are the data you’ve recorded about the cash coming in and out of your business.

A traditional approach to building a cashflow forecast might be a three-way forecast, which combines three separate forecasts – sales, profit and loss, and cashflow – into one consolidated forecast. Here are the bare bones of this method:

1. Create a sales forecast: Map out how much money you expect to make from selling your product or service each month, based on sales from previous months and any recurring trends or seasonality.

2. Create a profit and loss forecast: Combine your monthly sales forecast with expected day-to-day running costs and overheads, to map out your business’ projected profit each month.

3. Create your cashflow forecast: After you’ve created your sales and profit and loss forecasts, you can see the difference between total money in and total money out, which reveals whether you’re predicted to be cashflow positive or negative each month.

Using software to build a cashflow forecast

Creating a cashflow forecast using a spreadsheet isn’t just a time-consuming task, the result is also instantly out of date. Your business’ financial data is constantly changing, so even the most complicated models are too static to do it justice.

The easiest way to build a forecast is using cashflow forecasting software, which learns from your accounting data to automatically generate daily, weekly and monthly forecasts.

A typical small business’ accounting system has tens of thousands of transactions in it, from invoices to Direct Debits to loan repayments. This raw data provides invaluable insight into how your business – and the money flowing through it – behaves.

At Fluidly, we sync with your Xero or QuickBooks data. We use technology and statistical techniques to look for patterns in these transactions, which our tools use to create multiple forecasts in seconds.

We aggregate every transaction that’s caused your bank balance to change and use that to make a prediction, instantly and continuously. All you need to do is connect your accounting software, get set up and view your forecast. If something changes in your Xero or QuickBooks, your information is always in sync.

 

We hope you found this article helpful. We will be publishing Isaac's final instalment next week, where he'll be explaining how to MANAGE CASHFLOW IN A CRISIS.