Do you know the six crucial steps for top-notch cashflow forecasting? Gold star if you know them – but you have to ensure you are using them!
To ensure suppliers and the Australian Taxation Office remain supportive of a startup business, it is essential that business owners have a close feel for their forecasted inflow and outflow.
Unfortunately too many startups and SMEs put too little time into cashflow forecasting. On the other side of the coin, others over-intellectualise their forecasting, making forecast cash balances unreliable due to complexity and anomalies arising from “trying to be too clever”.
Here are my top tips for getting cashflow forecasting right:
Tip #1 – Don’t muddle through
If you can afford it use proprietary software designed by experts, or outsource the project. While Excel is a great tool, a small logic error can have significant ramifications. If you are using a spreadsheet, ensure that you spend considerable time double-checking your formulas.
Tip #2 – Break out the break-even analysis
At least annually, prepare a break-even analysis. This is a detailed process and provides one of the building blocks for your opening cashflow forecast. In a break-even analysis you will forecast sales, cost of goods and fixed costs. Variable expenses and fixed costs are split to determine the break-even point.
Break-even analysis is not only helpful as a starting point for cashflow forecasting, it is also essential in establishing any business’ required margin and determining cash reserves required in start up or growth phases.
The minimum information required for a breakeven analysis is your prior year’s management accounts, your cashbook and bank statements (taking into account any unpaid invoices) and your Profit & Loss forecast.
Tip #3 – Avoid death by pinprick
For startups, SMEs and even global conglomerates, the devil is in the detail! It is rare that a big hole sinks a business, it is often a whole multitude of pinpricks.
A detailed review of the last 12 months’ bank statements or cashbook will often pick up most expenses.
Don’t forget however that some costs change (new staff, increased prices, salary increases, expansion costs) and some invoices may not have been paid on time.
Take the time to accurately forecast cost changes based on your forecast sales for the new year.
Tip #4 – stop being an entrepreneur for a minute
Be conservative! The nature of an entrepreneur is often the antithesis of conservatism. This can be the key to success in a startup business, but when it comes to cashflow forecasting it essential to be conservative.
Forecast a worst case and best case scenario and have a contingency plan should the worst case become a reality.
Components of a plan that can go wrong often vary from business to business. Some common themes are:
• A major customer pays late
• Sales don’t meet expectations
• Forecasting errors in cost base
Tip 5 – Review your data
Sense check the outcome. Sometimes after a great deal of work the numbers just don’t look right. The greater danger is that if the figures look too good to be true there is a natural instinct to accept favourable outcomes as correct.
Perhaps put the process aside for a few days and come back to it with a clear head. Involve other people – both within the business and external advisers – to review your data.
Tip #6 – You’ll regret “set and forget”
Your cashflow forecast is a living document. Don’t just create it as a startup and let it gather dust. Review your cashflow forecast weekly and update it for actual results monthly. Don’t be afraid to change your course. If things aren’t working out as planned, take control of the elements of the plan. Make sure your major customers pay on time.
Occasionally, seek extended terms from suppliers to ease any negative cash positions reflected in the closing cash balance of your forecast.
Adjust your forecast for any changed payment intentions from customers or to suppliers. It might not be the sexiest part of being an entrepreneur but putting the effort into effective cashflow forecasting will pay dividends for your business.
Greg Charlwood is general manager of national cashflow solutions specialist FactorONE. A passionate supporter of small business, Greg has established and managed some of Australia’s major factoring businesses.