How to Perfect the Art of Cash Flow Forecasting


Finance Insights for ProfessionalsThe latest thought leadership for Finance pros

Thursday, October 7, 2021

Cash flow problems can hit a business hard, but getting forecasting right can help you ensure it doesn’t interrupt operations.

Article 4 Minutes
How to Perfect the Art of Cash Flow Forecasting

A growing, profitable company can still face cash flow problems, which can lead to a wide range of issues. From not being able to pay bills on time or making payroll to questions over your business’ creditworthiness, a lack of management when it comes to cash flow can lead to unnecessary problems.

This is where cash flow forecasting comes in, as it should enable organizations to sidestep potential issues by making sure there’s enough cash available for everyday operations. While that may sound simple enough, a study by Kyriba found that fewer than one in three cash flow forecasts are accurate.

So, not only do you need to put forecasting in place, you also need to make sure it’s as precise as possible. After all, running out of cash is among the biggest reasons why businesses fail, so the future of your company could depend on it.

Here’s how to get it right:

1. Put processes in place that reflect your business needs

How effective your cash forecasting is will start with the foundation, which is the company-wide process you put in place to measure incoming and outgoing funds. This process must reflect the nature of your business and will depend on a number of factors, including the industry you’re in and its seasonality. For example, a company that makes 80% of its revenue over six months will have different forecasting needs to one that has steady sales throughout the year.

2. Establish communication and collaboration between departments

While the responsibility for cash flow forecasting may lie with the finance team, it must work with other departments to get a fuller picture of the needs and resources required for the entire organization to ensure no liquidity crisis evolves. Clear communication on important figures means valuable insight can be shared to create the most accurate forecast possible.

3. Factor variables into your forecast

Don’t fall into the trap of coming up with aspirational figures when forecasting your inflows for the coming period. This prediction shouldn’t reflect the capacity your business has to produce products or services, but be an accurate estimate of the payments you’re likely to receive. It should be based on historical sales data, adjusted to take macroeconomic factors and the wider business environment into account.

4. Explore multiple scenarios

While everyone wants a forecast that’s accurate, there may be certain factors outside of your control you simply can’t predict. By creating more than one cash flow forecast based on different scenarios you can be prepared for several eventualities and understand how they’ll impact your future business. Instead of waiting for it to happen, you can visualize the scenario and prepare for it, meaning the company can adapt quickly in the event it does occur.

5. Take payment terms into account

A common mistake made in cash flow forecasting is not taking the payment terms of a transaction into account. An invoice that allows for 60 days to be settled shouldn’t be factored in as being paid on the day it will be issued, as this is unrealistic. Similarly, purchasing goods on credit will affect the timings of when money comes out of an account, so these delays should be reflected in the forecast.

6. Update your forecast regularly

Once a forecast has been created it can still be changed, and those that are updated every time something happens that has an effect on cash flow are the most useful. This will help you to track an evolving situation and ensure measures are taken to stop business from grinding to a halt because of late payments or other unforeseen circumstances.

7. Stick to a finite timeline

It can be tempting to make cash flow predictions well into the future, but factors can change rapidly and a build up of elements can make the landscape very different. Best practice dictates that forecasting for the year ahead is common, but it depends on the industry you’re in - look too far into the future and you’ll have to start the process all over again.

8. Make inventory checks

Carry out checks of your inventory regularly to see which products you’re buying aren’t selling. This stock can tie up cash and some organizations can carry on purchasing items without realizing they’re creating a backlog. This task must be approached objectively and without emotion, as it often pertains to a product that employees had high hopes for that it simply hasn’t fulfilled.

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