A business cannot survive without having any money flowing into its revenue streams. The amount of cash flow a business has will have a huge impact on the longevity and performance of a business. Many businesses that fail often cite poor cash flow management as one of the reasons for that contribute to their demise.
Underestimating the value of cash flow forecasting can significantly weaken the stability of a business, so it is therefore crucial to understand from the outset how a cash flow model works and why you need to undertake one.
Cash flow modelling generates visibility into a company’s assets, income, expenditure, debts and investments as an indicator of its future business performance, and its most important business goal to maintain solvency.
Cash flow modelling also allows businesses to plan for the future, as well as potential market fluctuations, and even an economic recession.
A cash flow forecast plays a vital role in helping a business plan for the future. A good cash flow forecast model estimates a business’s future financial position and helps ensure that it will have the necessary amount of cash to meet future obligations and better manage working capital.
Key financial reports such as an income statement (or profit and loss statement) only looks at sales and expense activity, while a balance sheet reports on assets, liabilities or contributions of equity.
Business owners make difficult financial decisions every day. Cash flow forecasting is a crucial part of a business’s planning process for a number of important reasons, and can help relieve the burden of cash flow management.
Here are some of the major benefits of undertaking a cash flow forecast to assist your business
Scenario Planning
Late payments from customers and clients can negatively impact cash flows significantly. However, by modelling alternative scenarios can help businesses to understand future plans, possible outcomes, and how various situations will impact their cash inflows.
Monitoring Overdue Payments
Although consistent overdue payments can dearly affect a business, having insight into later payers, and the impact they have on the bottom line can help formulate plans for more effective credit control.
Keep Track Of Whether Your Spending Is On Target
Every business has revenue goals and targets that are time-sensitive. But cash forecasts can help a business owner to understand exactly when and if they will reach those goals, and increase the accuracy of future budgeting.
Keeping Your Stakeholders and Investors Informed
Having good governance is super important to the longevity and success of any business. A detailed cash flow model forecast offers additional insight into the potential of a business encouraging confidence and the reassurance that their investment will be safe.
Financial Planning, Budgeting and Analysis
A healthy system for managing income and expenses is crucial for any business. A cash flow forecast can be complicated, because it involves measuring and monitoring many variables and making predictions about performance.
However, businesses need a sturdy financial model to know how much money is cycling through the company at any given time, and what cash is expected, to create a budget. Budgeting gives a detailed view of what income and capital expenditure a business can expect, and what might need to be cut.
It is strongly recommended that business owners spend time with their finance and accounting department as they build their financial model. It’s essential to have a full understanding of accounts receivable and accounts payable. Here are some things to review:
- Variable costs (such as; labour and raw materials)
- Fixed costs (such as; rent, utilities, certain salaries and business insurance)
- Other significant expenses (such as; investments in equipment or software).
Enhanced analysis and a regular examination of cash positions will increase the accuracy of a business’s financial position.
Identifying Potential Problems Before They Become Serious
By having forecasting as part of your cash flow model, you can anticipate surpluses and shortages to help with decision making about whether to increase focus on collections, or to seek a line of credit.
Forecasting will help manage all aspects of a business’s financial position, including how much cash is coming in from revenue streams, where it’s being spent on operating expenses, and the number of funds available after fulfilling these obligations.
Cash flow forecasting can help navigate the current climate within an industry and help businesses prepare for cash shortage situations like holidays & vacation periods that could affect a company’s bottom line.
The ability to forecast cash flow enables organizations to stay ahead of cash flow needs by identifying when more capital is needed to cover expenses and payroll commitments.
