Advantages of a cash flow forecast for your small business
In my previous journal article, I outlined the benefits of having a budget for your small business.
Setting up a corresponding cash flow forecast is a great idea once you have prepared your budget for the financial year (and spreadsheets haven’t deterred you).
A cash flow predicts money in and money out in your business.
So, what are the advantages of having a cash flow forecast?
You can identify any potential problems before they occur
By outlining when you expect to receive payments from clients and when money is due to be paid out, you will be able to see if there are any gaps or holes that need plugging. This is particularly useful when you are forecasting larger payments.
If you can see the gaps before they occur, it gives you time to rectify the issue. Ideas on how to rectify or mitigate a cash flow gap are:
- Eliminating or delaying some expenses until you have increased your revenue or cash reserves;
- Increasing sales to fill the hole, e.g. run a short-term special offer or marketing campaign to attract customers;
- Assess if you can bring forward a project so you will receive the revenue earlier; or
- Use surplus funds from your working capital account (if you have one) – but be sure to plan to top it back up again; or
- Investigate external finance options.
You can identify when you can increase your salary
When you start a business, you will often take a wage cut from working in employment. You tend to focus on building the business and plan to increase your salary when your business becomes more profitable.
As you work your way through the year, your cash flow forecast will indicate when you may be able to increase your salary. The increase can be done in increments until you reach your ideal salary. Be sure to forecast your super and increase it in line with your salary increase.
You can plan for those known more significant expenses
During the year, there are always times that a business will need to pay out larger amounts than usual. For example, you may need to place a larger order for stock or meet your statutory payments like your quarterly BAS or superannuation payments.
Let’s use your BAS payments as an example. Each quarter you lodge a BAS. The BAS includes GST, and you may also have PAYG for your employees and prepaid income tax instalments. This payment can be pretty significant. So, rather than scrambling to locate the funds last minute, you can save in monthly instalments.
Your budget will help estimate how much you will need to pay for the BAS each quarter. Then, break down this amount into even monthly amounts and transfer this to a tax savings account. Then, when the payment is due, you simply transfer it out and pay the account.
Provides insights to allow for informed business decisions
A cash flow forecast provides you with an insight into your business and how it is performing.
Like your budget, you don’t just prepare the cash flow forecast and then forget about it until next year. Instead, you will need to monitor and manage your cash flow throughout the year.
Each month or quarter, update your actual cash in and cash out. This will provide up to date information on your cash flow, and you can make decisions based on where your projected cash will be.
For example, your forecast may show a large surplus. You will need to consider what to do with this. Or another example, have you been planning to relocate premises, invest in more technology, or look to take on another employee? Understanding where your cash is and how much is available for use assists in making these longer-term decisions.
You can pay your debt down faster
If you have debt in your business, your budget and cash flow forecast will include your mandatory interest and principal loan repayments. But it can also help you forecast when there are excess funds available to make extra repayments.
Extra repayments mean you will pay less interest (as the principal amount reduces), and you can pay off your debt sooner. As a result, you are freeing up cash resources to invest in other business areas.
It helps to save for capital and expansion plans
Most business owners have an idea or a set of goals for where they want their business to be in the future.
Refer to your strategic plan and business plan (see notes 1 and 2 below), which outlines the business milestones to achieve and their associated costs. The next step is to save for these investment costs. And this is where a cash flow forecast can help.
Let’s assume you currently operate your business from home. Still, your dream is to open an art studio that caters to your creations, the community to visit, and space for visiting artists to work in. You can buy, or you can lease premises for your studio. Both options will require a certain amount of investment funds, e.g. security bond, fit-out costs, settlement funds, or a deposit.
Your strategic plan states that you want to accomplish the expansion in 18 months. Using the estimated cost for this expansion, divide it by 18, and this will outline how much money you should aim to save each month to reach your goal. Then, transfer this amount to a separate savings account.
It’s ok to fall short sometimes as things don’t always go to plan, and life happens – simply adjust your future forecast to reflect this. Consider putting aside extra funds in the months you exceed your projections, which will make up for the leaner months.
Your next step
There are programs available that make cash flow planning easier and integrate with Xero to extract your actual data. However, I am still a fan of the good old spreadsheet for budgeting and cash flow forecasting. You can play around with KPIs, expenses, and savings to see how different scenarios may play out in your business.
So, you can see there are numerous benefits to having a cash flow forecast, in conjunction with your budget, for your business.
If the idea of drafting a budget or cash flow forecast is a little scary, or you simply don’t have time, reach out to me today. We can discuss your options and help get your business on track for the upcoming financial year.
And, if you haven’t already done so, pop on over to my Facebook group, When business and purpose collide. Join other socially aware business owners on their journey to a purpose-led business.
NOTES:
[1] A strategic plan outlines the direction of your business for the next 3-5 years
[2] A business plan states the action items you wish to accomplish in the next 12 months to reach a milestone(s) from your strategic plan
ABOUT THE AUTHOR:
Narelle Wilson of Volta Consulting’s vision is to bridge the gap between profit and purpose and improve the world one small business at a time. Volta offers new perspectives and practical strategies to build profitable small businesses that drive social change and positively impact the world. Narelle can assist your business with sustainable strategy + planning, financial management, bookkeeping, and social impact.
WEBSITE: www.voltaconsulting.com.au
INSTAGRAM: https://www.instagram.com/voltaconsulting/
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