Why is a Cash Flow Forecast Important?

As we discussed in our recent article 10 ways to easily improve your net cash flow, understanding your financial inflows and outflows is paramount for a thriving business. Building on this foundation, this article introduces you to the Cash Flow Forecast and illustrates why it stands as one of the most critical financial instruments for businesses of all sizes.

Understanding the advantages of a Cash Flow Forecast is essential for securing your business’s financial well-being and enabling strategic growth. Whether you’re guiding the early stages of a startup or managing an established enterprise, a well-constructed Cash Flow Forecast provides the clarity needed for effective financial management and future planning. 

At Palmers, we provide data-driven growth strategies for our clients…and the Cash Flow Forecast is crucial in our work.

Before we jump into the specifics, let’s define the Cash Flow Forecast.

What is a Cash Flow Forecast?

Simply put, a Cash Flow Forecast is a prediction of the money expected to move into (inflows) and out of (outflows) your business over a defined period – typically weekly, monthly, or quarterly.  Our Cash Flow Forecast Template (below) includes a 12 month period, however you can simply break it down for more granular insights.

The forecast calculates your net cash flow by subtracting your estimated outflows from inflows each month, then adds that figure to your (previously calculated) starting cash balance. This process is repeated month by month, using hypothetical or estimated numbers, to give you a running projection of your cash position over time. So, if you’re wondering whether you’ll be in a position to scale in six months, you’d plug in your expected figures and use the forecast to see where your finances could land.

Think of your Cash Flow Forecast as a financial roadmap -or perhaps a ‘heads up!’, projecting your business’s future cash position. While it inherently involves estimations, a well prepared forecast offers a vital overview of your business’s liquidity. 

You might also hear it termed a cash flow projection or cash forecast, but the fundamental principle remains consistent: anticipating your future cash movements to ensure financial stability.  By forecasting your cash flow, you can mitigate the risk of cash shortages, identify potential financial vulnerabilities, and maintain seamless financial operations.  A Cash Flow Forecast is the ‘look’ before the leap.

The Risks of Neglecting Cash Flow Forecasting

Without a Cash Flow Forecast, your business becomes reactive to the moment and, therefore, susceptible to several financial challenges, such as:

• Cash flow shortages: Lacking insight into periods of tight cash flow can leave you struggling to meet essential obligations such as payroll, rent, and supplier payments.
• Missed opportunities: A lack of foresight into your future cash position can prevent you from capitalising on timely investment opportunities or reacting swiftly to evolving market conditions.  If you don’t have the available cash, you can’t take the opportunity.
• Financial distress: Without regular forecasting, it’s easy to overextend financially, leading to increased debt and heightened financial pressure.

Main Objectives of a Cash Flow Forecast

As you may be gathering, a Cash Flow Forecast serves several critical purposes within your business and is the difference between being reactive or proactive.

A significant role we play for our clients is helping them foresee likely challenges or opportunities ahead of time, as well as advising preparation for intended scaling and business growth; again, the Cash Flow Forecast is a fundamental part of that process.

To explain Cash Flow Forecasting and how it relates to your business practices, here is a simple list of what the primary objectives of a forecast might be:

• Liquidity Planning and Risk Management: A core benefit is enabling effective liquidity planning. By anticipating your cash inflows and outflows, you can ensure your business has sufficient liquid funds to meet its financial obligations as they fall due. Robust liquidity management significantly reduces the risk of cash depletion, a leading cause of business failure.
• Strategy Development, Budgeting, and Financial Planning: Cash Flow Forecasting provides valuable insights into your future financial standing, informing more accurate budget creation, the setting of realistic financial goals, and the development of effective growth strategies. With a reliable forecast, you can confidently plan for capital expenditures, business expansion, and other significant strategic decisions.
  
• Financial Reporting: An accurate Cash Flow Forecast is a vital component of your overall financial reporting. Providing stakeholders such as investors and lenders with reliable forecasts demonstrates your business’s financial health and performance, facilitating their assessment. It also underpins the accuracy of your financial statements and tax reporting.
  
• Scenario Planning: A powerful capability of Cash Flow Forecasting is the ability to model different scenarios. By adjusting key assumptions and inputs, you can predict how various factors, such as economic downturns or unexpected increases in expenses, might impact your cash flow. This allows for proactive planning and better preparedness for unforeseen circumstances.
  
• Elevating Shareholder Value and Attracting Investments: Investors and shareholders place a high value on businesses that demonstrate a clear understanding of their cash flow dynamics. A robust Cash Flow Forecast showcases financial discipline and a proactive approach to risk management, both of which contribute to increased shareholder value. A well-articulated forecast can also significantly enhance your prospects of securing financing or attracting investment to support growth initiatives.

Obviously these are all important objectives for any business and it’s within these objectives that we find the purpose for crunching the numbers and creating a Cash Flow Forecast.

Advantages and Disadvantages of a Cash Flow Forecast

A Cash Flow Forecast is a financial tool that helps businesses estimate their future income and expenses. Understanding the Cash Flow Forecast meaning is key to maintaining financial health, especially for small businesses and startups.

Advantages of a Cash Flow Forecast

• Improved Planning: A forecast helps predict periods of cash shortage or surplus, allowing for better financial decisions.
  
• Risk Management: By identifying potential shortfalls in advance, businesses can plan accordingly to avoid cash crises.
  
• Funding Support: Lenders often require a Cash Flow Forecast to assess a company’s ability to meet repayment obligations.
  
• Performance Monitoring: It helps compare expected cash flow against actual figures, enabling better forecasting over time.
  

These points highlight the benefits of cash flow forecast models in proactive financial management. However, there are some disadvantages that are important to note.

Disadvantages of a Cash Flow Forecast

• Estimation Errors: Forecasts are based on assumptions, so unexpected expenses or revenue fluctuations can make them inaccurate.
  
• Time-Consuming: Creating and maintaining forecasts can be labour-intensive, particularly without a structured Cash Flow Forecast template.
  
• Overreliance: Businesses might rely too heavily on projections, ignoring real-time financial signals.
  

If you’re unsure how to begin, it may help to first define cash flow projection clearly and explain cash flow forecasting methods appropriate for your industry. While useful, a cash forecast definition will always involve assumptions, so flexibility and regular updates are crucial.

How to Do a Cash Flow Forecast

Creating a Cash Flow Forecast might seem a bit daunting at first, but as it’s one of the most valuable tools you can use to stay on top of your finances, it’s definitely worth the investment of time and will bring an ROI on monetary investment.

Here’s how you can do a forecast for your business:

Accounting Software

If you’re using accounting software like Xero, you’re already halfway there — many platforms offer built-in forecasting features or integrations that automatically pull in your real-time data, providing you’ve added the data. This saves you time and keeps everything up to date.

DIY Cash Flow Forecast Template

If you prefer to keep things hands-on, a Cash Flow Forecast Template in Excel or Google Sheets is a great way to structure your thinking. 

These templates let you input your expected income and expenses, giving you full visibility and control over your forecast.

Professional Help

Of course, if you’d rather leave it to the professionals, working with an experienced accountancy firm like Palmers UK is a smart move. We help clients create tailored Cash Flow Forecasts that align with their goals, making sure you’re not just looking ahead — you’re planning ahead, with real confidence.

Schedule your free one-hour financial review now to get some immediate insights on your business growth opportunities.

Now, let’s look at how to create a Cash Flow Forecast from scratch — step by step. If you’re searching for a straightforward way to build your own forecast, this is the bit to bookmark.

Step-by-Step Guide to Creating a Cash Flow Forecast

1. Choose your forecast period

Decide whether you’re planning for the next few weeks, months, or even a full quarter. A weekly Cash Flow Forecast is great for short-term control, while monthly or quarterly forecasts help with long-term planning.

2. Record your opening cash balance

This is the cash you currently have available in the bank. It’s your starting point.

3. Estimate your cash inflows

Think about all sources of income your business expects during the period — sales, invoice payments, grants, loan instalments, and any other cash coming in.

4. List all expected outgoings

Include rent, supplier invoices, wages, taxes, insurance, utility bills, loan repayments, marketing spend — everything you expect to pay out.

5. Calculate your net cash flow

Take your total incoming cash and subtract your total outgoing payments. This tells you whether you’re in a positive or negative cash position for that period.

6. Work out your closing cash balance

Add your net cash flow to your opening balance. This shows how much cash you’re likely to have left at the end of the period — and it becomes the opening balance for the next one.

7. Review regularly and adjust your forecast

Compare your actual cash movements with your forecast. If there are differences, update your figures and assumptions. This helps make your Cash Flow Forecast more accurate over time and keeps your planning realistic.

Key Terms in an Effective Cash Flow Forecast

Now you understand how crucial a Cash Flow Forecast is to a proactive and growth focused business, you’re likely wondering how to get started in the process.

To ensure your Cash Flow Forecast is both accurate and practical, it should incorporate these key elements:

• Opening Cash Balance: This is the amount of liquid funds your business holds at the beginning of the forecast period. It serves as the initial figure for calculating expected cash movements.
  
  
• Cash Inflows: The money anticipated to enter your business during the forecast period. This includes revenue from sales, loan disbursements, investment income, and other sources.
  
  
• Cash Outflows: The expenses your business expects to incur during the forecast period. This encompasses payments for salaries, utilities, loan repayments, and all other operational costs.
  
  
• Net Cash Flow: This is the difference from subtracting total cash outflows from total cash inflows. A positive net cash flow indicates your business is generating more cash than it is spending, while a negative figure suggests a potential need for borrowing or payment deferrals.
  
  
• Closing Cash Balance: The total cash your business is projected to have at the end of the forecast period. This figure is crucial for ensuring sufficient funds are available for upcoming expenses and strategic investments.
  
  
• Assumptions and Factors Impacting Cash Flow: Clearly documenting the assumptions underpinning your forecast, such as expected sales growth rates, anticipated cost increases, or changes in payment terms, is essential for understanding potential variations.
  
  
• Sensitivity Analysis: This involves testing how changes in key variables, like sales volume or expense levels, could affect your cash flow. By analysing different scenarios, you can identify the factors with the most significant impact on your financial stability.
  

7 Key Benefits of Cash Flow Forecasting

We’ve looked at what a Cash Flow Forecast is, how it works and how to carry out a forecast for your business, so let’s quickly ask: what are the benefits of a Cash Flow Forecast in practical terms for established businesses, with some examples and actionable tips!

Here are seven key advantages:

1. Anticipate and Mitigate Cash Shortages: A primary benefit of Cash Flow Forecasting is its ability to predict potential cash shortfalls. By projecting when your outgoings might exceed your incoming funds, you gain the foresight to take timely action, such as securing short-term financing or negotiating adjusted payment schedules with suppliers.
   
   • Example: Phoenix Manufacturing Ltd., a well-established engineering firm, projects a significant cash outflow in Q4 due to a large capital investment in new machinery. Their Cash Flow Forecast, prepared well in advance, allows their finance director to explore options like securing a specific project-based loan with favourable repayment terms or strategically phasing the capital expenditure to better align with projected inflows from major contracts.
     
     

2. Enhance Your Ability to Secure Financing: Lenders and investors prioritise businesses that demonstrate sound financial management, and a clear Cash Flow Forecast is compelling evidence of this. By presenting well-structured projections, you significantly increase your chances of securing loans or attracting investors who are confident in your business’s ability to manage its finances and generate returns.
   
   
   
3. Strategic Allocation of Surplus Cash: Effective Cash Flow Forecasting helps you identify periods when your business is likely to have surplus cash. This insight allows you to make informed decisions about how to best utilise these funds, whether it’s through strategic investments in growth initiatives, paying down existing debt to reduce interest expenses, or reinvesting in core business operations to enhance efficiency.
   
   • Example: GreenTech Solutions PLC, a successful renewable energy company, forecasts a substantial surplus in cash flow following the completion of a major project in Q2. Based on this projection, the board decides to allocate a portion of these funds to accelerate their research and development into new sustainable technologies, a strategic move to maintain their competitive edge and drive future growth.
     
     

4. Early Detection of Customer Payment Issues: A detailed Cash Flow Forecast can also serve as an early warning system for potential problems with customer payments. If your projections indicate a pattern of delayed or unreliable inflows from significant clients, it could signal underlying financial difficulties for those customers. This early identification allows you to proactively address these issues, perhaps by reassessing credit terms for higher-risk clients or implementing more rigorous credit control procedures.
   
   • Actionable Tip: If your Cash Flow Forecast consistently shows delayed payments from a particular client segment, you might consider revising your credit policy for new clients in that sector or offering early payment discounts to incentivise quicker payments, thereby improving your gross margin by reducing the cost of tied-up capital.
     
     

5. Proactive Management of Supplier Payment Challenges: Just as you can identify potential issues with customer payments, a Cash Flow Forecast can highlight potential challenges in meeting your obligations to suppliers. If your forecast indicates impending cash shortages that might impact your ability to pay suppliers on time, you can take proactive steps to address the situation. This might involve negotiating temporary payment extensions with key suppliers or exploring alternative sourcing options to maintain a healthy supply chain and potentially secure more favourable payment terms in the future.
   
   
   
6. Strategic Planning for Seasonal Fluctuations: Many established businesses in the UK experience predictable seasonal variations in their cash flow. By consistently forecasting cash flow, you can anticipate these peaks and troughs and plan accordingly. For example, a large retailer might forecast significantly higher inflows during the Christmas period and can strategically allocate a portion of these funds to build inventory for the peak season or to cover operating expenses during the typically slower months of January and February, ensuring consistent operations throughout the year.
   
   • Actionable Tip: Understanding seasonal dips in your Cash Flow Forecast might prompt a review of your pricing strategies. For instance, offering promotions or discounts during off-peak seasons can help to stimulate sales and improve cash inflow, potentially offsetting some of the seasonal decline and contributing to a more stable gross margin over the year.
     
     

7. Improved Overall Business Valuation: A consistent track record of accurate Cash Flow Forecasting and proactive cash management can significantly enhance your business’s overall valuation. Potential buyers or investors view a business with predictable and well-managed cash flow as less risky and more attractive. Demonstrating your ability to forecast accurately signals strong financial control and a clear understanding of your business’s financial dynamics, ultimately contributing to a higher valuation.
   
   • Example: When considering a potential acquisition, a larger competitor will meticulously review the target company’s financial records, including historical and projected Cash Flow Forecasts. A history of accurate forecasting, coupled with proactive strategies to optimise cash flow, will be seen as a significant asset, increasing the target company’s appeal and potentially the acquisition price.

Conclusion

By understanding and leveraging the Cash Flow Forecast, your business will experience clear benefits, from strategic decision-making, risk management, and sustainable growth, to -ultimately- a stronger valuation.

At Palmers Accounting, we offer a complete Cash Flow Forecast service and would be delighted to speak with you about your business. 

For your FREE ONE HOUR FINANCIAL REVIEW, give us a call now or schedule your meeting straight away in our diaries.