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24 October 2018

Using Smart Cash Flow Forecasting To Help Your Business Succeed

In the current business environment, it is more important than ever for companies of any size to plan their finances in order for them to succeed and to ensure long-term sustainability. Using smart cash flow forecasting helps them efficiently in doing so, while gaining competitive advantage.


Starting a new business or initiating a new high growth project is an exhilarating experience. But it also comes with its share of challenges. In fact, one third of all businesses fail within the first two years; one-half won’t make it to their sixth birthday. Why is that? There are a host of reasons why so many businesses and projects fail. The main one is inevitably the lack of a good business idea. But there are many companies out there with great ideas that still fail. Far too often, the culprit is poor cash flow management.

This article shows owners of small and medium business (SMB) how to rely on a smart cash flow forecasting process to ensure their business succeeds. It offers a closer look at:

  • The main reasons why most businesses fail,
  • Why good cash flow forecasting is vital to success,
  • How to set up a good cash flow forecasting process.

Effectively managing cash flow is essential to any business. Fortunately, a new breed of smart cash flow forecasting web solutions can make this process manageable for SMB owners and their teams. More importantly, they can have direct and positive impacts on your business’s bottom line. Read on to get a better handle on how you put cash flow management to work for your business.

5 common reasons why businesses fail

1. Unprofitable business model

Starting a new business or a high-profile project on a model that is inefficient or not backed by a solid business plan is a sure recipe for failure. “A solid business plan must incorporate operational and financial best practices and be validated by experienced professionals before any substantial amount of time and money is invested in the project.” How to test the soundness of your business model

  • Analyze and compare other industry competitors.
  • Ask professionals to help you build and review your business plan. It should include a market feasibility analysis, as well as business planning, strategic marketing, and cash flow forecasting based on predictable revenue.

2 – Lack of management experience

New enterprise owners often lack business and management expertise in key areas such as sales, operations, finance and human resources. To be successful, business owners need to be able to:

  • Analyze, plan and manage all activities that impact the company’s operations and finances.
  • Be a good leader who can create a work climate that encourages efficient processes and employee productivity.
  • Sell their business vision to employees and partners.
  • Put together the right team to turn this vision into a reality.
  • Continuously adapt to change and adjust their business strategy accordingly.

3 – Insufficient starting capital

Most business projects take at least a full year or more to start turning a profit. Having enough starting capital will keep your business afloat until there is a constant flow of revenue. “By the time cash liquidity is too low, it’s often too late for the bank to do anything about it. Business owners need to know where the money is coming from, where it’s going and most importantly, when.” You can protect your business from a possible cash flow crunch by setting up an emergency funding plan such as a line of credit with your bank. You can also use professional business accounting services and software to keep records of all financial transactions and to regularly generate profit and loss statements. Having a firm grasp on your business’s financial situation will give you ample time to plan for cash flow crises and avoid business failure.

4 – Overexpansion

Overexpansion is the unexpected killer of many businesses. That’s because once their business is up and running and finally doing well, many business owners blindly set their sights on growth. Focusing on growth certainly isn’t wrong, but it has to be managed strategically. Far too many business owners allow their business to expand too rapidly without insuring their month-to-month profitability. Fail to manage your volume-related costs and your business could end up becoming less profitable as its sales grow. “The solution to avoiding runaway growth? Carefully calculate a manageable pace of expansion and make decisions with this rate of growth in mind.” Signs of healthy, manageable growth

  • Being able to promptly respond to customer demand
  • Being able to keep up with production orders
  • Being able to keep up with financial obligations
  • Being able to maintain quality levels even as sales volume grows

What if your diligent market analysis justifies expansion? By all means, focus on growing your business; just keep in mind that you can’t do everything by yourself. Make sure you have the right people and business processes in place first. Entrepreneurs who want their businesses to grow at a healthy and manageable pace should delegate as much as possible, all while keeping a close eye on operations from a business efficiency dashboard.

5 – Poor cash flow management

Cash is king in business—especially when it comes to running a startup or a business in expansion. It can be surprisingly easy to run short of cash without even knowing it. Far too many businesses mistake revenue and profits for cash. A business can have good revenue and even turn a profit but still run out of cash. This is due to the difference between accounting principles (when a revenue is recognized) and reality (when the money actually lands in your account). Entrepreneurs need to be vigilant and constantly keep track of current and future cash levels. Why good cash flow forecasting is so vital to success Effective cash flow forecasting will allow you, in a timely manner, to:

  • Prevent cash shortages
  • Improve key financial ratios
  • Identify the need for financing
  • Facilitate the approval of business loans
  • Plan new equipment & material supply purchases
  • Meet tax obligations
  • Anticipate future revenue and expenses
  • Adjust staffing according to expected revenues and expenses

What is cash flow forecasting? Cash flow forecasting (CFF) is a key aspect of cash flow management. External partners such as banks ask businesses for cash flow forecasts at regular intervals. CFF estimates the amount of money you expect to flow in and out of your business over a given time period which can range from a week to a year. 3 foremost reasons for forecasting cash flow

  • It allows you to manage your immediate liquidity needs.
  • It allows you to anticipate the impacts of business decisions for the next X months.
  • It acts as a warning system. By looking at how quickly customers are paying their invoices, CFF can help you identify problems with customer payments.

Why Bank Account Balances Are NOT a Good Forecaster of Cash Flow A lot of budding businesses use their bank accounts to manage cash flow. Sure, your bank balance will tell you the current state of your cash flow, but precious little about what’s around the corner. If your business is growing, predicting cash inflows and outflows over time is even harder. The easiest and most efficient way to forecast cash flow is obviously with an automated cash flow forecasting tool. A cash flow forecasting tool will tell you:

  • How much money you have in your bank accounts.
  • How much money you are expecting within a certain period of time.
  • How much money will be going out within a certain period of time.

How to get the most from a cash flow forecasting tool Use it often. Use your CFF tool on a regular basis. Depending on your business operations, you may even want to update your forecast and reconcile your accounts daily. This way you can get a high-quality forecast based on a proven history. Knowing how much money you’re going to have in the bank not just today – but in three months’ time – can help you make smarter business decisions. Encourage early payment. Encouraging early payments and having an efficient collection system in place will help to optimize cash flow and prevent cash failures. To make your cash flow management even more robust, have a credit line to cover at least one month of business expenses. “Remember, you’re not a bank. When customers owe you money, always collect sooner rather than later.”  Rolling Forecast For business forecasts to be adjusted daily, they need to be flexible and available quickly. As product development cycles and new business opportunities continue to accelerate, businesses are increasingly treating rolling forecasts as standard. The old time-consuming budgeting and forecasting processes no longer cut it. The average forecast cycle has fallen from a few weeks to merely a few days. Budgets are now understood to be flexible in nature. They need to be torn up every few months to reflect the new, always-on forecasting process that’s constantly updating business plans. What’s more, forecasts are no longer based on past results. Instead, metrics like market share, human resources, customer satisfaction, category variations and others can be fed into the system to make smarter predictions that can instantly respond to fluctuations—either in the market or within the company  How to set up a good cash flow forecasting process Notwithstanding our earlier point that entrepreneurs should delegate as much as possible, managing your business’s cash flow is not a task you can afford to leave to others without being directly involved. As the owner, only you know all the assumptions needed to build an accurate cash flow forecast, because these are directly linked to the way you run your business. Although an accountant can provide invaluable support, it’s important that you, as the owner, are heavily involved in the process right from day one.  Main steps in creating an efficient cash flow forecasting process:

  1. Set up your cash flow forecast
  2. Analyze, define and predict
  3. Import your bank statements
  4. Reconcile your bank statements
  5. Review your business situation
  6. Making smarter decisions with the power of AI

STEP 1: Set Up Your Cash Flow Forecast

The first step is to prepare a cash flow budget with an estimate of cash receipts and cash payments for a specific period of time. Use sales and production forecasts to create a cash budget as well as assumptions about necessary expenses and accounts receivables. “When projecting sales for cash flow, be realistic. Set up a worst-case-scenario of estimated sales from historical monthly averages. If you don’t have this historical data, use conservative estimates based on your business plan. The bottom line is that the projected cash inflow needs to be achievable for your forecast to be accurate and to ensure the business has sufficient cash to operate at any given time. Using unrealistic expectations could very well lead to cash shortages.”  

Cash Inflow Categories When forecasting cash inflows, it’s essential to factor in timing. Divide your accounts receivables into different payment term categories such as 30 days, 60 days, 90 days and 180 days to determine how long it will take to turn these projected inflows into usable funds. Also consider cash inflows other than those from sales, such as:

  • Government subsidies and bank loans
  • Supplier rebates
  • Cash injection by a new partner
  • Insurance claims
  • Any other source of cash coming into your business at a specific moment in time


Figure 1: Weekly CFF Sample

Cash outflow categories

To build an effective cash flow forecast, you also need to consider three cash outflows categories that will vary depending on your type of business. 1 -Fixed expenses These expenses are usually paid monthly and rarely vary with fluctuations in sales levels. Fixed expenses typically include things like:

  • Telephone & Internet service
  • Rent, heat & electricity
  • Advertising & marketing costs

2 – Variable expenses These expenses typically vary in relation to fluctuations in sales and production volume. Variable expenses typically include things like:

  • Direct labour, which is paid early in the manufacturing process
  • Raw materials, which are paid late when obtained on credit terms of 30 to 90 days or more
  • Commissions to sales reps
  • Shipping costs

3 – Intermittent expenses These expenses are usually tied to specific or seasonal events. Intermittent expenses typically include things like:

  • Dividends
  • Business trips
  • Equipment purchases
  • Insurance
  • Employee training programs
  • R&D
  • Special projects

STEP 2: Analyze, Define and Predict

Now you’re ready to analyze, define and predict your cash flow amounts from your business assumptions over time. Be sure to provide details to explain any one-time or recurring amounts that are not self-explanatory. “Cash flow forecasting is particularly important for seasonal businesses –those that have a large fluctuation of business at certain times of the year, like holiday or summer businesses. Managing cash flow in this type of business is tricky, but with a bit of diligence it can be done.”

STEP 3: Import Your Bank Statements

Cash flow forecasting needs to be viewed as a cycle. The first step is obviously to build the forecast itself with estimates taken from your business plan. But it doesn’t end there. You also need to import your bank statements into your cash forecasting tool to compare what was predicted to what actually happened. Comparing forecasts with reality on a weekly basis will ensure truly accurate forecasting. For example, if you forecasted an inflow of $500 on May 14th, verify whether this inflow actually occurred by looking at the bank statement for that day. There are three possibilities:

  1. The inflow occurred as predicted. No adjustment is needed.
  2. The inflow did not occur. The inflow either needs to be postponed to a future date or deleted entirely if it is no longer expected.
  3. The inflow occurred but the amount was different from what was forecasted. The discrepancy must be recorded and the forecast may need to be adjusted.

STEP 4: Reconcile Your Bank Statements

Reconciling your bank statements on a regular basis will ensure your cash records are correct. Otherwise, you may find that your cash balances are much lower than expected, resulting in bounced checks or overdraft fees. A bank reconciliation will also detect certain types of fraud after the fact; this information can be used to design better controls over cash receipts and payments. “Account reconciliation is essentially comparing the information in your accounting records with your bank statements listing all transactions over the past month. This allows you to see if there are any differences between the two and to adjust your accounting records as required.” Using a cash forecasting tool is a good way to automate the account reconciliation process and avoid the usual weaknesses and inefficiencies in the reconciliation process that can often lead to mistakes on the balance sheet and overall inaccuracies in the financial close. “Automating the account reconciliation process is a critical step in achieving balance sheet integrity—and ultimately—a timely and efficient financial close. This in turn can create a solid foundation for evaluating business performance, supporting organizational decisions, and satisfying external reporting requirements.”

STEP 5: Analyze your business situation

Figure 2: Forecast Report Sample    

Once you have completed the previous steps, you will then be able to properly interpret what your software is telling you about your business—specifically, your cash flow and cash position. Cash flow vs. cash position Cash flow and cash position are very closely related. The biggest difference is that cash flow refers to the net change resulting from inflows and outflows of cash over time, whereas cash position is a sign of financial strength and liquidity at any given moment. “Cash position gives a good indication of stability. A healthy cash position is a sign that there are few problems on the horizon and that liabilities and obligations can be met. A weak cash position should signal to the investor that there may be problems ahead.” Before you can determine your monthly cash position with any degree of accuracy, you first need to identify your accounts receivable turnover ratio. A high-turnover ratio indicates a combination of a conservative credit policy and an aggressive collections department. A low turnover ratio represents an opportunity to collect ageing accounts receivable that are unnecessarily tying up your working capital, depending on their overdue dates (up to 30 days, 30 to 60 days, 60 to 90 days, and so on). It goes without saying that your business’s goal is to strive for a strong cash position and a positive cash flow to better evaluate your enterprise leverage ratios, liquidity ratios, and profitability ratios.

STEP 6: Making smarter decisions with the power of AI

If the plan is to grow the company, then you need to be not only looking for new opportunities or challenges, but ready to act on them quickly as well. That takes some planning ahead. A good cash flow forecast will tell you what is feasible and what isn’t in the foreseeable future; it should also include an emergency plan with a pool of money for special events or projects. It’s also a good idea to approach your banking partners proactively so that if a sudden infusion of capital is needed, you can access these funds quickly. Businesses of all size can also benefit from using artificial intelligence to test various financial scenarios. For the purposes of business planning, artificial intelligence refers to a rapidly evolving set of technologies and algorithms that can be used to predict outcomes and identify complex patterns based on sufficient enterprise historic data. The following are just a few examples of financial scenarios where artificial intelligence can help to improve your decision-making with high ROI. You will be able to:

  1. Identify seasonality and growth to detect recurring patterns
  2. Auto-categorize bank movements based on past categorization
  3. Analyze discrepancies between forecasted and actual results to fine-tune forecasting
  4. Warn against certain vulnerabilities or other “what if” scenarios (chatbot)
  5. Identify trading, investing and financing opportunities
  6. Propose the best trades with respect to their term, rate and risk
  7. Identify interdependency between categories
  8. Match incoming payments with invoices

Using your current forecast scenario, you can generate other “what if” scenarios to help plan sales increases and foresee their financial impacts on your required supplies, human resources, etc. Ideally, your forecast should allow you to quickly generate a 3-year pro forma financial statement for business partners. Knowledge is power and security Far too many promising companies fail because they do not have enough liquidity to finance their growth. New sales invariable entail additional spending, whether it’s purchasing equipment, hiring new employees, boosting marketing investments and so on. Having a solid and smart cash flow management process in place will ensure you have a solid grasp of your financial situation at all times. This will allow you to pursue a manageable rate of growth and still meet the requirements of customers and financial partners. Contact us to learn more about our automated cash flow forecasting solution and other business tools.

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