What is cash flow forecast?Cash flow forecasting is the process of estimating how much cash you’ll have and ensuring you have a sufficient amount to meet your obligations. By focusing on the revenue you expect to generate and the expenses you need to pay, cash flow forecasting can help you better manage your working capital and plan for various positive or difficult scenarios. A cash flow forecast is composed of three key elements: beginning cash balance, cash inflows (e.g., cash sales, receivables collections), and cash outflows (e.g., expenses for utilities, rent, loan payments, payroll).
Building out cash flow scenario modelsIt’s always good to create best case, worst-case and moderate financial scenarios. Through cash flow forecasting, you’ll be able to see the impact of these three scenarios and implement the suitable course of action. You can use the models to predict what needs to happen especially during difficult and uncertain times. In situations where variables shift quickly such as during a recession, it is highly recommended to review and update your cash flow forecasts regularly on a monthly or even weekly basis. By monitoring your cash flow forecast closely, you’ll be able to identify warning signs such as declining revenue or increasing expenses.
How to improve the accuracy of your cash flow forecastIn cash flow forecasting, your estimates are based on historical data. This means having accurate historical data is critical. Below are some tips for improving its accuracy:
- At the end of the week or the month, input your actual results or the cash that was received and cash spent. This will allow you to identify which items you got wrong in your estimates and evaluate why you got it wrong. This analysis may lead you to identify bigger issues and help you make adjustments to your assumptions.
- Carefully evaluate all of your assumptions. Just because it’s correct now doesn’t mean it will be true for the future. Go through everything, especially when it comes to sales and validate it.
- Don’t forget to include annual payments, loan payments, credit card debt payments, and estimated taxes.
- It’s almost impossible to forecast where your business is going to be longer than one year out. You’ll introduce more risk and greater uncertainty the further out your financial scenario models go.