Cash flow forecasting is performed to avoid future insolvency for a business. Managing cash flow is a vital task for a business, as doing so poorly can lead to a business shutting down permanently. No matter how much profit passes through a company, it must be handled correctly for the company to be successful. So, forecasting profits is instrumental in the survival and growth of a business. Depending on the health of the business, regular cash flow forecasts may come more or less frequently. Smaller, more vulnerable businesses may need to update forecasts on a daily basis. Larger, more stable businesses may do so on a weekly or monthly basis.
Cash flow forecasts are merely estimates of how cash will be received or spent in the near future, based on previous accounting periods. If a business has just started and has no previous accounting periods, it may be helpful to view market trends or similar business models to anticipate cash flow. When developing a forecast, it is important to note a business’s capacity, the local economy, and area competition.
Without a cash flow forecast, it would be difficult to anticipate any interruptions in cash flow, which could bankrupt a business. If there is not enough cash for creditors and employees, the company’s image can be damaged and employees may leave. If there is no cash flow forecast, problems cannot be addressed before they arise. With a plan, solutions can be anticipated long before the problem occurs.
To forecast cash flow, it is important to have past income statements and balance sheets on hand. Viewing these statement on a daily, weekly, or monthly basis provides a view of a company’s financial history and anticipated increases or decreases in cash flow. Analyses of revenue and expense patterns should be created and the connection between costs and sales should be determined. Obviously, reviewing financial information across longer spans of time will provide a more detailed image and more accurate forecast of cash flow.
With past statements and analyses on hand, the future plans of a business must be incorporated. Future plans vary from business to business, but all estimates should include a sales estimate. Expenses should be included and often depend on a sales estimate for that accounting period.