Cashflow forecasting is a calculation of how much cash your business will generate and consume and therefore what your bank balance will be. There are a number of accounting reports that are used to help run your business, including the profit and loss account, the balance sheet, aged debtors and aged creditors reports, budgets, business plans, KPIs, and finally, yet most importantly in our opinion, the cashflow forecast. Cashflow forecasting is not the same as profit; cashflow is way more important than profit. So here are some tips to get you going.
The key is in the title. It’s a forecast. A cashflow FORECAST. Any forecast is a prediction of the future, and that prediction has to be based on assumptions. For example, you will need to estimate how many orders you will receive next month. You will need to estimate how quickly your customers will pay you. You will need to estimate how much suppliers will charge. At JRMA, the most common mistake that we see on cashflow forecasts is overly optimistic assumptions.
Here are some examples of optimistic assumptions:
Assuming that you will always make sales targets. You probably won’t. Sales targets tend to be aspirational and are used, quite rightly, to motivate and drive performance. But targets shouldn’t be the figures used in the cashflow forecasting. It is much better to use past performance.
Assuming that customer will adhere perfectly to your payment terms. You may have payment terms that specify that payment is made on the last day of the month. But often customers will stretch this and make their payment runs not on the 31st, but say on the 5th or 6th of the following month. It would be unrealistic to assume receipt of every account on 31st.
Cashflow forecasting is so important to a business that the forecast should be updated at least monthly. In businesses, where cashflow is hand to mouth, it should be updated at least weekly, sometimes daily. By updated, we recommend, that you review the actual bank balance, and ensure that you have an accurate starting position, and that the future movements are reviewed in detail. The more up to date it is, the more accurate it will be. And the more accurate, the more useful it will be.
There are a number of accounting software packages that have a cashflow feature, including Sage, Xero and Quickbooks. From an historic reporting point of view, these are great tools, and will accurately report what you have spent in the past on what.
From a cashflow forecasting point of view, JRMA believe that there is no substitute for preparing the cashflow forecast yourself. By reviewing individual transactions and making an informed decision about when these will take place, by agonising over how much you will sell to each customer next month, by recognising seasonality trends in your business, and by overlaying the nuances and subtleties of your business, you will gain a detailed understanding that will drive business performance and boost your bank balance. The saying “what gets measured, gets done” is applicable to the cashflow forecast.
At JRMA, we have introduced the idea of cashflow forecasting to many clients. All of these clients have adopted this tool and continue to use it as a key business control. A wonderful quote that we had from one customer was that they “opened the cashflow forecast at the beginning of the day, made regular updates throughout the day, and closed it at the end of the day, and that every decision was noted on the cashflow”.
But it can be hard to know where to start. We find that this is task that is naturally delegated to the accounts department, and in the first instance, it is an unpopular one. Bookkeeping and accounting is traditionally a precise and accurate discipline with balancing and checking. Whereas forecasting is more imprecise. The future is not set, so a forecast cannot be precise, and this can be counter intuitive to a normally backwards looking department.
Our first advice would be to get some training. At JRMA, we have developed some techniques and templates that are workable across businesses of various sizes and sectors. And we have trained a number of businesses to use them. If there is genuinely no-one in the business that has the skills, appetite, or time to prepare the forecast, then this is something that could be outsourced to your accountant. At JRMA, we also update cashflow forecasts for a few customers in these circumstances.
The cashflow forecast is most likely being prepared by your accounts team. That’s great, they will have the best understanding of what will come in and out of the bank and when.
However, it is important that the rest of the management team regularly review the forecast and act on it. If it is showing bad news, that cash is tight, or worse that cash is running out, then we recommend that you review the assumptions, and check the maths. But if all that stacks up, and the cash is still declining, then this is your chance to take action and prevent a crisis before it happens. For example, pushing back a payment run until a key receipt is in, or by delaying (or cancelling) discretionary or expansionary spend, or withholding purchase orders until the bank balance recovers.
To sum up. The cashflow forecast is a key tool for managing your business. Get trained, be realistic, update it regularly and in detail and act on what it is telling you. For more information on this topic read our blog "What is a cashflow forecast and how can bookkeeping help?" here, or to get in touch to see how JRMA can help with preparing a cashflow forecast, contact us on 01905 796512 or via our website here.
