What is a cash flow forecast?
You might also see cash flow forecasts referred to as cash flow projections. Though the terms are used interchangeably, their definitions can differ slightly. Cash flow forecasts typically focus on the immediate future, whereas projections often extend further into the months and years.
A cash flow forecast is different from a cash flow statement. A statement focuses on past cash flows while a forecast aims to predict the future.
Why is cash flow forecasting important?
Staying on top of your business cash flow means you’re able to pay bills on time and pay yourself, too. When costs are rising, it becomes even more crucial that businesses get their cash flow management right, and cash flow forecasting is one way to do it.
A cash flow forecast (or projection) tells you how much money is expected to move in and out of your business during a specific period. You can adjust the period of your cash flow projection to see how your finances will change over the course of a week, a month, or even a year.
When you know your projected cash flow, it’s easier to plan for potential gaps or dips in your income.
Benefits of a cash flow forecast
Cash flow forecasting is a good financial habit to get into. It has multiple operational and financial benefits for your business, including:
Spotting cash shortages and giving you time to work on contingency plans, whether that’s delaying spending, requesting extra credit from suppliers, or securing a business loan.
Assessing the affordability of your growth plans – for example, they can show if there’s going to be enough money to buy new tools, or to hire a new employee.
Ensuring you will have enough money to pay you, the business owner!
Identifying quickly if expenses are climbing or income is slumping.
Highlighting fixable cash flow problems such as slow-paying customers, impractical payment terms, seasonal cycles, or over-reliance on high-cost finance.
Enabling you to build a cash flow plan, so any predicted gaps or dips are managed ahead of time.
What are the key components of a cash flow forecast?
Your cash flow forecast will show a few key aspects of your business' finances. These are:
Starting position (cash in the bank)
Expected cash in (hopefully mostly from sales but may also be from loans or sales of assets)
Expected cash out
Net cash flow, which shows if cash reserves have grown or shrunk
Closing balance
Who is responsible for creating a cash flow forecast?
Lots of small business owners do their own cash flow forecasting. You can use a spreadsheet or accounting software to do it. But plenty of others rely on a bookkeeper or accountant. They’re able to do them quickly because they know their way around small business cash flow and can provide additional business advice and guidance to help you with your cash flow management. You can find a Xero-ready accountant and bookkeeper in our directory.
Cash flow forecasts versus cash flow projections - what’s the difference?
Cash flow forecasts and cash flow projections are essentially the same thing. Both are financial planning tools that small business owners use to predict their future cash position. The main difference is the time frame they forecast on.
Generally, cash flow forecasts are used for short-term planning. You might create one to check if you can cover the next month’s worth of bills, or see what your cash flow position is for the 30 days ahead. Cash flow forecasts are based on recent data – like your actual sales and expenses from the previous period.
Cash flow projections are typically used for long-term financial planning. You might create one to help you budget for a new product launch, or to decide whether you can afford to hire more staff. Projections use historical data and estimations on future sales, expenses and investments – as well as recent data.
A cash flow dashboard shows how cash balances will rise and fall in response to expected transactions.
Both cash flow forecasts and projections can help you understand where your business is headed. Using a combination of short-term and long-term projections enables you to make smarter financial decisions.
Let’s take a look at how to create cash flow projections yourself.
How to create a cash flow forecast
To create a cash flow forecast, you estimate the size and timing of upcoming transactions and show how these affect your cash position. You can do this using a spreadsheet or software.
The process for calculating a cash flow projection is exactly the same. To project a longer period, you might need to go through previous financial quarters or years to make sure your income and expenditure estimates are accurate.
Creating a cash flow forecast spreadsheet
Choose a forecasting period and note how much cash you have at the beginning of that period. You could look at a one-month period, or a year’s projected cash flow.
List and date all your expected cash income for the forecast period, including sales receipts and things like grants, tax refunds, or incoming finance that will hit your bank.
List and date your outgoings, too. Besides familiar business costs, be sure to capture infrequent expenses or costs like annual fees or taxes that might come due, or repairs that need to be performed during the period.
Take your starting balance and run through the forecasting period, adding incoming amounts and subtracting outgoing amounts. This will show how much cash you’ll have at any given point in time.
See an illustrated example of this approach.
Creating a cash flow forecast with software
You can also generate a cash flow forecast using accounting software. Xero, for example, is designed to track business incomings and outgoings, which means it can calculate projected cash flows for you.
A cash flow dashboard shows how cash balances will rise and fall in response to expected transactions.
A cash flow dashboard shows how cash balances will rise and fall in response to expected transactions. Xero provides the cash flow projection templates, you just need to select the accounts and forecasting period.
Accounting software can also integrate with other apps to provide robust, long-term forecasts. Popular forecasting apps include Float, Spotlight and Fathom.
Alternative methods of cash flow forecasting
There are other ways to generate cash flow forecasts from your balance sheet and profit and loss statement. These typically provide longer-term cash flow projections rather than day-to-day or week-to-week forecasts. It also requires accounting knowledge to prepare one of these projections so ask your accountant or bookkeeper if you want to know more.
Example of a cash flow projection and forecast
Cash flow forecast example
The finance manager of Tiny Construction wants to assess whether the business’ cash flow will support the purchase of a new piece of equipment in the next month. The equipment will cost £20,000.
Based on current bank balances and reconciliations, Tiny Construction has a starting balance of £45,000. Outstanding invoices and sales forecasts estimate that incoming payments from sales within the next 30 days will be £90,000. There are no other incoming payments for the month.
So the ‘money in’ part of the cash flow forecast will look like this:
The ‘money out’ part of the cash flow forecast will look like this:
With incoming sales receipts of £90,000 and outgoings of £65,000, the company will have added £25,000 in net cash flow for the period. Adding that to the £45,000 of existing cash will mean the business has £70,000 left in its bank account at the end of the month. This will become their starting balance the following month.
However, if they purchase the equipment with surplus cash, their starting balance for the next month will reduce to £50,000. This example shows how businesses can use cash flow forecasts to make investment decisions and estimate whether they would be able to afford the new piece of equipment or would have to consider financing it.
Cash flow projection example
The finance manager of Tiny Construction is building a budget for a new service launch. They need to know how much cash will be available over the next 12 months to support the launch.
Tiny Construction has a starting balance of £45,000. The firm has two consecutive projects lined up for the next 12 months. The outstanding invoices and sales forecasts show that incoming payments will be £70,000 per month for the first six months, and £65,000 per month for the following six months. Tiny Construction is also expecting a government grant payment of £30,000 in six months’ time.
So the ‘money in’ part of the projected cash flow will look like this:
The finance manager of Tiny Construction also needs to estimate their fixed and variable expenses. Fixed expenses include things like employee salaries, permit costs and insurance. Variable costs include things like labour (which fluctuates depending on sales), equipment costs and raw materials.
The finance manager looks back over the last year’s reports and data to see if there were any fluctuations in bills and expenditures. There was an uptick in expenditure to cover annual training last July, so they allow for an extra £10,000 in expenses this coming July.
The ‘money out’ part of the projected cash flow will look like this:
With £840,000 coming into the firm and £550,000 going out in the next 12 months, Tiny Construction would have added £290,000 in net cash flow for the period. Adding that to the existing £45,000(starting balance), the business will have £335,000 left in the bank at the end of the 12-month period. With this in mind, the finance manager can build an annual budget for the firm’s new service.
How do you analyse a cash flow forecast?
Once you have prepared a cash flow forecast, spend some time analysing it by checking:
The closing balance – the amount of money you expect to have in reserve at the end of each period
Net cash flow – the amount by which your cash reserves went up or down during the period
Accuracy – compare your forecast to what actually happens in real life. If the forecast was off, find out what you overestimated or underestimated. You may learn something new about your business and this process will help make your next forecast more accurate
How often should cash flow forecasts be done?
Businesses can conduct cash flow forecasting for any timeframe and duration. As you might imagine, it gets harder to accurately predict incomings and outgoings the further into the future you go. But whatever range you choose, it’s a good idea to keep refreshing your forecast.
If you run a 12-month projection, for example, with a column for each month, you might refresh it at the end of each month. Drop the last month off, add another month to the end, and check all the forecasts in between to see if anything needs updating. There are plenty of cash flow projection templates available online and in cloud-based accounting software.
If the thought of doing it all yourself is overwhelming, talk to your accountant or bookkeeper about cash flow projections for small businesses. There’s a good chance they’ll be able to create them for you and explain the different aspects in greater detail. Once you have a reliable projection, you can develop a cash flow plan to help you cover costs and grow your business.
Cash flow forecasting for small businesses
Cash is king. This age-old expression is very true for small businesses, whether you are growing or looking to maintain financial stability. Now you know how to make cash flow projections, you can take control of your business’ financial health.
Cash flow projections for small businesses don’t have to be time-consuming. Instead of spending hours collecting and updating cash flow data, you can automate the process with accounting software. If you’re not ready for software, you can start by downloading a free cash flow forecasting template.
Xero is also here to support you with our cash flow resource hub, which contains expert guides and articles on how to maintain healthy cash flow.
Disclaimer
Xero does not provide accounting, tax, business or legal advice. This guide has been provided for information purposes only. You should consult your own professional advisors for advice directly relating to your business or before taking action in relation to any of the content provided.
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