How cash flow forecasting can impact the performance of your business growth?

As Sir Richard Branson puts it “Never take your eyes off the cash flow of a business because it is the life and blood of a business.”

A notion amongst novice entrepreneurs is that the success of their business is measured by the amount of profit it makes. The reality is different, intellectuals argue that multiple factors determine the success of a business, cash flow being a key component.

A renowned management consultant, Peter Drucker once gave his views on the importance of cash flow. He said, “Entrepreneurs believe that profit is what matters most in a new enterprise, but profit is secondary, Cash flow is what matters most.”

Young entrepreneurs usually shift their entire focus towards profit generation soon after launching their businesses. The urge to lead the competition by making higher profits can often overshadow the need to manage and maintain their cash flow efficiently. As a result, this mismanagement often leads to cash shortfalls due to which most startups either start borrowing or just fail. 42% of SMEs consider cash flow as an obstacle to their success as per a survey carried out by the Department of Business and Innovations Skills.

After extensive research, our accountants who specialise in creating smart cash flow solutions have prepared this article to enlighten entrepreneurs on the importance of cash flow and how cash flow forecasting can impact business growth. Alternatively, we have prepared a guide to help you understand how your accountants should be helping you cure your cash flow problems.

What is a Cash Flow document and what is the use for it?

A company’s cash flow is one of the most critical determinants of its long term success. Cash flow is the money that flows in and out of your business during a specified period and generally impacts the company’s liquidity, A comprehensive guide explaining cash flow forecasting can be found here. Negative cash flow means more money has left the business than has been received by the business, Positive cash flow means that more money has been received by the business than has left the business. A positive cash flow position is what is considered as favourable for the success of a business.

A profit-making business if not managing cash flow effectively can struggle to pay its suppliers resulting in delays in buying products to serve customers. The end result can lead to unhappy suppliers, lost customers and a negative impact on the business profits. Businesses normally wait until they come across cash flow problems to create solutions such as to implement a credit control solution and produce cash flow forecasts, the result can be reduced revenues, lost trust with suppliers and costly access to short term cashflow solutions, which could otherwise be extra cash in your pocket.

Having access to specialist business accountants when building your business foundation can be important in making your business successful. Speak to specialists such as lawyers, accountants or marketing consultants in order to determine if they can add any value or provide any useful feedback. 

Related: Cash Flow guide which provides an in-depth explanation of what a cashflow forecast is?

Net cash flow and its importance:

Net cash flow can either be positive or negative. Positive cashflow implies that more money is flowing into the business than being spent. Similarly, negative cash flow means that the company is making less money than it is spending. A business can have tremendous profits but due to a large number of debtors, the business can still end up in a negative cash flow position.

Positive cash flow can help a business meet their short or long-term loans and other pending bills on time. 

In contrast, negative cash flow can increase the business’s struggle to fulfil its immediate needs and may force the business owner to borrow loans from creditors. Negative cash flow can also have a devastating impact on business relations with creditors and lenders.

Are you in a poor cash position and are being pursued by your creditors? We have explained in detail what to do if you receive a winding-up petition? Alternatively, if you have too much cash and do not know what to do with it, how about learning about ways to grow your surplus cash.

Why should I start paying attention to cash flow?

A companies cashflow if managed effectively can act as a potential safeguard during an economic crisis like a recession. Financial institutions or lenders may refuse to lend money in times like these. Not only this, but borrowing may become more expensive as interest rates usually go up to balance the risk of borrowers not returning the money. Therefore, the cash flow of a company is crucial to surviving seasonal and economic downturns.

Related: Late payments can affect a company’s cash flow. We have prepared a visual presentation to show you how you can avoid the problem of late payments.

What is the purpose of cash flow forecasting?

The purpose of Cash flow forecasting is to manage money in such a way that the company can pay off all of its bills and loans on time. It further prevents the business from suffering any major cash shortages. Besides liquidity management, cash flow forecasting is employed by companies to assist them with other financial aspects as well. For instance:

1. Cash flow forecasting helps owners identify the productive and unproductive areas of their businesses by comparing which parts of the business make the most profit and which parts convert their profits into cash the quickest.
2. Companies need proper budgeting for capital purchases and to ensure quality budgeting, they utilize cash flow forecasting to help them plan for this. It also helps in identifying the need for a business loan if a company wishes to pay off all of its payments due in one go.
3. When the cash arrives, it needs to be tracked, recorded and managed. The forecasting process helps businesses track the expected plan against the actual results.
4. Cash flow forecasting helps anticipate the effects of planned business changes. For instance, it can predict the impact of different decisions, like hiring a new employee or changing the business location, on the company’s financial cash health.
5. Cash Flow forecast with the help of reliable data can help predict the financial circumstances of the company for the next few years. Such forecasting helps companies budget their finances effectively.

Related: Read how a professional accountant on board can help your startup grow.

How can Cash Flow Forecasting help a Business with Growth?

According to the Office of National Statistics, 90% of the businesses in the UK fail due to cash flow issues, this is because they might not be allocating cash resources correctly. Entrepreneurs have several decisions to make when running a growing business, aligning the resources of the business with key decisions can be crucial towards business success, e.g dedicating all your cash to running the operations of a business can be detrimental to the success of a business if nothing is allocated to growth such as marketing or sales etc.

Cash flow forecasting is one tool that can be extremely useful in managing resources effectively, in turn, improving business performance, returns and growth.

Managing your cash flow is crucial to decision making, as a growing business you might want to purchase a bigger office or hire more employees, a decision based on the profit of the business alone could be highly misleading. Businesses such as wholesalers can have large sales due to their bulk selling nature, however, the payment terms with customers can be delayed which can result in a cash negative position. In this scenario, if you were to make a business decision just by looking at the profit you might run short of cash when making actual payments. Decisions such as these can have a huge impact on a business’s credit history and purchasing power, with proper cash flow forecasting in place you can avoid such issues.

Another way cash flow forecasting can be key for business growth is by understanding the gaps in cash flow, profitable businesses with cash shortfalls will mostly if not always identify process weaknesses due to cash shortages such as weak credit controls or improper supplier and customer payment terms. Using these revelations to improve processes or implement temporary solutions such as invoice financing or factoring to cover cash shortfalls can be key to improving business performance and growth. This will help you maintain your businesses growth without any major delays. Alternatively investing cash surpluses to plan for cash shortfalls can also be important when planning for a rapidly growing business.

Planning for pricing and discounts can be complicated, from considering break-even to profit margin, net profit and operating margins, a slight miscalculation can result in the business not having enough funds to pay for its products or operations. Pricing strategies include cash flow forecasting as a major component, using strategies such as reduced pricing or discounts can help improve business cash flow, use that in conjunction with other strategies and your business can become a well-oiled cash-generating machine. We have formulated a price strategy guide where you can learn more about various pricing strategies.

In summary, cash flow forecasting can extend its value to various functions of the business. It is an excellent option to promise effective debt management. Besides debt management, good cash flow can always provide the extra strength and capability needed to grow a business. It can help businesses grow in terms of their infrastructure, assets and inventory. It can also provide insight into how much money you should be putting into your research and development to introduce new products in order to drive up sales. Cash flow forecasting can also drop hints on how much you should be spending on your employee’s training to increase their overall productivity.

Ideal cash flow forecasting will help you get a firm grip over your company’s cash flow and make it stronger. Strong cash flow helps businesses position themselves in the market in a more strategic and proactive manner. The strategic and proactive approaches can then let a business victoriously pass through all of its growth stages.

“Tip: Visual guide showing steps to cure cashflow problems.“

What is Cash flow forecasting’s role in effective financial management?

Excellent cash flow management is subject to informed decision making. Informed decision making is only possible when the company has enough information about its current financial situation.

Predicting the company’s financial position in the future based on the company’s current finances is what cash flow forecasting is all about. Cash flow forecasting, one of the primary components of financial management, is a process of estimating the firm’s future financial position based on expected payments and receivables. The forecasting process usually covers a period of the next 12 months and provides strategic information accordingly.

What are the methods of cash flow forecasting?

There are primarily two methods to forecast cash flow- Direct forecasting and Indirect forecasting. Companies employ a direct forecasting method when they have to predict the level of cash flows required for liquidity management in the short-run (less than 90 days).

When a company plans to devise long-term financial policies, it utilizes the indirect method of cash flow forecasting. The indirect way is ideal for predicting the firm’s long-term financial circumstances by manually developing up a cash forecast based on anticipated income and balance sheets.

Mentioned below are the steps to forecast a company’s cash flow on a spreadsheet:

1. Start the process by entering your current account balance and the amount of cash on hand.
2. The next step is to predict your cash in-flow from different sources, for instance, sales and estimate the amount of cash you expect to flow in your business bank account. Also, take note of the changes you wish to make in the future, as changes in the marketing strategy which might help drive up the company’s total sales.
3. You need to work out how you will invoice and gather payment from clients. Figure out whether you will get paid at the time of service or bill on a 30-60 days term. Ensure that you do not include expected income on your cash flow forecast until you are pretty sure that it will be in your bank account.
4. Moving on, you now have to estimate your daily, weekly or monthly expenses. Work out your regular, non-regular or semi-regular expenses. You also need to predict your indirect and overhead expenses.
5. Take account of the receivables and expenses flowing in and out of your company and ensure that you update your actual figures accordingly to accurately forecast. Analyze your estimated figures with your predicted figures and work out how the resulting differences impact the business’s future cash flow. Plan future changes for anticipated positive or negative cash flow in the future and take appropriate actions that will help you get better control over your company’s cash flow in the future.

How is the cash flow forecasting process managed?

An employee from senior management usually supervises the cash flow forecasting process. The person responsible often is the one who has extensive expertise and experience in the finance sector and is in touch with every department of the company. The finance director or financial manager is most likely to supervise the cash flow forecasting process of a company.

The person-in-charge has to source data from both the employees and the accounting system. The more complex the structure of an organization, the more systems will be required to help with the process. Therefore, it’s feasible for process supervisors to identify and define different sources of cash flow data early on.

What are the top tools to help you with cash flow forecasting?

Our accountants have prepared a list of top 4 tools to help your small business get control over its cash flow:

1. Float

Basic features: 

• Easily integrates with other accounting software
• Gathers information automatically
• Helps prepare a cashflow forecast with scenario-based modelling

Pricing (GBP):  £49/month (Essential), £99/month (Premium), £199/month (Enterprise)

2. CashAnalytics

Basic features:

• Forecasts and automates various cash flow from various sources
• Quick reporting and consolidation
• Conducts Quality variance and accuracy analysis

Pricing (GBP): Price depends on the tailored solution presented 

3. Pulse

Basic features: 

• Helps maintain and track the company’s cash flow
• Integrates with other accounting software to prepare automated forecasts
• Tracks cash flow in different currencies

Pricing (GBP): £29/month (Basic)

4. PlanGuru

Basic features: 

• Can accurately budget and forecasts for up to 10 years
• Built-in integrated financial statement infrastructure
• Can help forecast using non-financial data

Pricing (USD): $99 (Monthly Plan) -> $29/month for every additional user, $899 (Annual Plan) -> $299/year for every additional user

5. Dryrun

Basic features: 

• Helps track invoices, bills and due dates
• Can import data from Xero and Quickbooks online to prepare a cash flow forecast
• Allows full manual control and flexibility
• Can automatically forecast for future cash flow

Pricing (USD): $199/month billed annually  (Advanced), $149/month billed annually (Business), $99/month billed annually (individual)

What are various methods to improve a company’s cash flow:

There are several ways through which business owners can improve their cash flow position:

1. If you have an unused business vehicle or a space in the warehouse, try renting out these unused assets to other businesses for an inflow of business cash.
2. You can always request your vendors for flexibility in payment terms like paying for their services in instalments. Alternatively, you can reduce debtor days and increase creditor days, this will have a positive cash impact.
3. Offer discounts for early payment of invoices. 
4. If borrowing, ensure that you pay a minimal amount of interest. Try consolidating all of your debts into one long-term debt, so that you pay a lower interest rate
5. Get the burden of debt off your shoulder as quickly as possible. Debts can trigger a negative cash flow.

Related: If you want to know more about cash flow, read our comprehensive guide to understand your cash flow responsibilities in detail.

How can Accountants help a business manage cash flow?

Accountants are responsible for helping a company manage its cash flow. While doing so, they have to consider several things before making any decision. For instance:

1. They have to search for profitable investment opportunities while making sure that they don’t drain the company’s cash by investing in risky assets unnecessarily.
2. They have to devise and implement different strategies for debt collection.
3. They have to balance the level of cash inflows and outflows to avoid negative cash flows in the future.
4. They have to help the business prepare a cash flow forecast and track and monitor its performance.

Clear House Accountants are Accountants in London who have years of experience in handling the financial affairs of startups, small, medium and large size businesses. Our growth accountants ensure that your company passes through every stage of business growth successfully while saving you time and money.

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