WATCH: Why is cash flow forecasting important for small businesses?
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JOHANNESBURG – Interestingly, cash flow management is a major concern for every small business. Though you’re playing smart with your invoice processing accounting and accounts receivable management, cash flow problems can cripple in your business whether you own a small or large business. Small businesses are more vulnerable to cash flow problems.
However, it doesn’t mean you cannot control your cash flow problems, not entirely, but up to a little extent by forecasting cash flow every year. So, let’s discuss cash flow forecast in detail:
What is a cash flow forecast?
A cash flow forecast predicts how much cash will come in and go out of your business in the financial year. This means it involves all your predictable revenues and expenses for that particular period. You can do cash flow forecast yearly or monthly or weekly as well.
The process begins by creating an account in which you can add the money that you expect it to be the balance amount. You may consider these funds for revenues, sales, receipts, etc. In the same way, you can subtract some amount from balance, which is the money outflow of your cash flow. You may call these as funds costs, expenses, payments, etc.
Importance of cash flow forecasting for businesses
If a business faces cash crunches or is out of cash, it will soon become insolvent. And according to researchers, small businesses are the one that is likely to become insolvent due to cash flow issues. This leaves no excuse for business management professionals that they didn’t saw the red flags of financial crises beforehand. This makes cash flow forecast important mainly because of the following:
- It helps to identify discrepancies in cash balances in advances
- It also ensures the capability of the business to pay suppliers and vendors on time
- Detect problems with customer payments, enabling businesses to devise effective strategies to get paid faster
- It is a crucial factor in financial planning for long-term growth of the business
- When applying for loans or financial institutions, a financial forecast is required, which is only prepared on the basis of the cash flow forecast
Things to consider in cash flow forecasting
To be honest, cash flow forecasting won’t be easy for small businesses because starting from scratch has never been a cake walk. The best way is to ballpark your expenses and revenues by keeping in mind the following steps:
- Accounts payable: All the quarterly payments shouldn’t be averaged out and considered in cash flow forecasting every month. You need to understand first how those quarterly payments would affect your cash flow, for which receiving payments four times a year is important.
- Accounts receivable: When it comes to money inflow, many small businesses make a mistake. They usually predict the period of payments when invoiced and not when they’re received. This process is imperative! Depending upon your set terms for receivable, some clients might pay you on the spot while others may pay within 30, 60 or 90 days after purchase. Remember, invoices aren’t cash, so it is important that you wait until you receive the amount.
How to Identify and Fix Cash Flow Problems?
If you find that your business is suffering from any of the following symptoms, then it’s high time to take the right action:
- Receivables are high: You might feel great by extending lines of credit card for your clients, but what’s the point? You are eventually increasing your receivables that mean you’ve more inaccessible cash. And, there’s no guarantee whether your clients will pay you or not. It is important to keep track of your receivable turnover ratio.
- Too much inventory on hand: If you are into selling products or services to other businesses, it is obvious that you’ll have inventory to meet the orders. However, if customers are not racing to buy those products, you’ll end up having too much inventory that will tie your funds until goods are sold out. So, being a business owner, revise your order cycle and reconsider the quantity of products.
- Sales are declining rapidly: Maybe the competition is increasing or economy is in shambles, whatever the case would be if your sales are declining rapidly over the past few quarters, then you may be out of the market soon. This situation clearly indicates cash flow problems in the business. Now, you have to revise your strategy and remember when you last time analyzed the customer’s personas or when you updated your service message.
- Your business is not profitable: It doesn’t require any rocket science to let you know that your business is not running well if you aren’t earning as much as you’re spending. In this case, re-examine your business models and devise better strategies to boost your profitability.
How to create an accurate cash flow forecast?
The key factor to make your cash flow projection successful is to make it as accurate as possible. It is obvious that you don’t want to make investments and decisions based on inaccurate cash flow forecast. Follow these below-mentioned tips:
- Evaluate business indicators: When you plan and maintain your cash flow forecast, it is important to keep an eye on crucial business indicators, like sales pipeline. Do you find any big deal that can positively affect your cash flow? Does this deal require any sort of investment in marketing, staff, product development or travel? What about your sales funnel? These types of insights can help you stay one step ahead of your competitors.
- Predict your sales timeline: Once you are through your sales pipeline, it’s the right time to evaluate when opportunities will arrive and generate cash for your business. Forecast such opportunities on a weekly or monthly basis and put this into your cash flow forecast. Remember, a closed deal doesn’t mean cash in hand as it might take days or weeks to get paid for your products or services. But, these assumptions can definitely help you play smart and have an edge.
- Tightly hold your budget: Always keep in mind that your cash flow forecast should include a list of anticipated expenses and dates of getting paid. This is where accounting statements come into play! That’s the reason it is important to keep your accounting books organized in order to prepare for an effective cash flow forecast.
- Maintain cash flow forecast: Your forecast document is a living entity that breathes. So, it is important to make a habit of revising it on a regular basis and updating your forecast with the changing trends. You can also use your current cash flow statements to prepare the cash flow forecast, allowing you to spot patterns and trends, like how fast or slowly your client pays you and a lot more.
Cash flow forecasting is going to be an arduous task, yet it is essential. Cash flow forecast not only keeps you updated with how much cash your business will generate but also let you know how much cash you can sustain for business expansion.
Avneet Narang is a Marketing Manager at Cogneesol. Her primary focus is to increase brand popularity and global customer base through innovative digital strategies. The views expressed here are hers.
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