A simple five step process to prepare a cash-flow projection
Cash is the ‘blood’ that flows through a business. Without cash a business will die –no cash equals no business. The fact is that almost every business is facing a common problem: the lack of cash –which we cannot always from occurring, all we can do is to manage it wisely so when the problem occurs, we have enough time to address the situation.
Thus, if money is tight in your business, here is the 5-step process to take control of your cash and get rid of the nasty surprises:
Step 1: Understanding Cash-flow
In basic terms, cash flow is the difference between cash coming in and cash going out. However, the key thing is to make sure cash comes and goes on an even and predictable schedule.
Accountants define the cash-flow cycle as: the time between buying raw materials, converting them into inventory, selling your inventory, and finally collecting on those sales. The lag time between each of those steps is what can cause an issue”. A short cash-flow cycle allows a business to quickly acquire cash that can be used for additional purchases or debt repayment.The longer it takes to convert cash out into cash in, the more chance there is for a shortfall.
So make sure that you understand and make commitment to your particular cash-flow situation since it has become absolutely critical to your business survival.
Step 2: Knowing your cash balance
Do you know your cash balance today? How do you know where you are going if you don’t know where you are starting from? You need to keep your checkbook register up-to-date, not once a week, but every day or in other words, keep your adjusted checkbook balance. Without the correct information you can make too many bad decisions - promises that you can’t keep, or worse yet write checks that will not clear.
So, figure out what your real cash balance is today!
Step 3: Gather the information
To prepare your cash-flow projection you need to know where it is coming from and where it is going to by doing some educated guessing. To figure out when you will be spending cash, you need to look at an Accounts Payable Aging Report - a list of all the bills you owe and the correct due date. You also need to consider spending that you don’t have a bill for – payroll, quarterly taxes, and equipment maintenance. The most common cause of cash-flow problems is being confronted by an expense you didn’t plan for. Therefore, it is important to get in a “worse case scenario mindset” -include every expenditure and procrastination that “might” happen. For example, if you send bills to your customers, you can base it on when your customer’s invoices are due but bear in mind their individual payment history. If they pay late then they have a tendency to pay late. Thus, be realistic and honest when guessing about cash coming.
Step 4: Create a cash-flow projection
A cash-flow projection is a record of future cash transactions. It is usually prepared on a monthly basis but should be prepared weekly when cash is tight. It is as easy as managing your check book. You need to estimate Beginning Cash Balance, Expected Cash Deposits, Bills to Pay and Estimated Ending Cash Balanceon a weekly basis based on the actual invoice due date and your weekly expected cash receipts.
So, prepare the schedule and put it to good use.
Step 5: Analyse your projection
Now, you have created a cash flow projection. Let’s use it right. Start by looking at the Estimated Ending Cash Balance. Where does your cash start to get tight? Is there a time when your balance goes negative –where you don’t have enough cash?
When cash-flow is tight, you should do a weekly projection for 8 weeks and have extra time to be able to address a potential cash shortfall. After a month, you will also want to compare your Cash-flow Projection to your actual checkbook results. How did your guesses compare with reality? What did you over or under-estimate? Use these differences to adjust and improve your guesses going forward.
By following these steps, make the commitment now to prepare a projection and keep it updated, you will have the best information in the timeliest manner and never be unpleasantly surprised by a cash crunch. Forewarned is forearmed. So make your Cash-flow Projection a top priority for your business!
Click to download the full whitepaper: “How to manage your cash flow when money is tight”
Jennifer H. Elder is the President and founder of The Sustainable CFO. She has a background in accounting and finance that spans more than 25 years. She is a Certified Public Accountant (CPA), Certified Management Accountant (CMA), Certified Internal Auditor (CIA) and Certified in Financial Forensics (CFF). She has a Masters of Science in Organizational Management and Leadership. Jennifer is also a faculty member at Antioch University New England in the Green MBA program.You can read her blog at www.jenniferelder.com and contact her at firstname.lastname@example.org