How to Create Cash Flow Projections

No business owner can be in business long without hearing “Cash is king” or “Cash is the lifeblood of a business.” Those sayings are rooted in the importance of cash flow projections. And, according to a recent survey of small-business owners’ experiences with cash flow, there are some worrisome statistics behind these ominous-sounding axioms. 

In the Quickbooks 2019 State of Small Business Cash Flow report, 69 percent of respondents said "they have been kept up at night by ongoing concerns about their cash flow status." Furthermore 61 percent of respondents "struggle with cash flow" and 32 percent "are unable to either pay vendors, pay back pending loans, or pay themselves or their employees due to cash flow issues." (The study was based on 3,000 owners of companies with 100 or fewer employees. They were polled in the United States, United Kingdom, Australia, Canada and India in fall 2018.) 

The solution isn’t necessarily making more accurate profit projections, says Rob Stephens, the founder of CFO Perspective, a small business financial consulting firm in Spokane Valley, Washington.

Instead, it’s about making better cash flow projections.

“Profit projections answer, ‘How much will I earn?’” Stephens, a CPA and former banker, explains. “Cash flow projections answer, 'When will I have the cash I need to make those profits?’ and ‘Where will I get that cash?’”

Businesses use cash flow forecasts to track sources and timing as cash moves through a business, explains Levar Haffoney, managing principal of Vedere Consulting Group, a small business consulting firm in New York City.

“Cash flow projections are used to predict the cash coming in and going out of their business,” he says. “They allow you to plan for variances and adjust accordingly.”

The variances keeping business owners up at night are when there isn’t enough cash to pay bills, observes Karen Papazian, founder of  K Buildz Consulting in Los Angeles.

“Small businesses are forecasting to make sure there are no periods where the cash expense total is higher than the forecasted revenue,” she says. 

If a business owner has advance warning of a pending cash crunch, corrective action can be taken, Stephens points out. Effective solutions for cash shortages include pre-arranging for additional cash from sources such as bank loans, credit lines, cash advances from customers and extended terms from suppliers.

“If your projected cash sources failed to materialize, do you have alternative sources you can tap to keep your business running at its potential?” Stephens asks. A worrisome cash flow forecast can move this question to the top of a business owner’s concerns.

A robust cash flow projection, on the other hand, may cue a business owner to search for upcoming opportunities. These may include acquisitions, expansions and new hires. Excess cash can also be reinvested or distributed as income.

So how does one do a cash flow projection?

1. Find starting cash balance.

The cash flow projection begins with the amount of cash in your business checking account. If additional cash is available in the form of cash or checks not yet deposited, include that as well. The starting cash balance includes all available cash, whether it came from sales revenue, loans or other sources. 

2. Estimate cash in.

The next part of preparing a cash flow projection consists of estimating future revenues.

“By taking into consideration the business' invoicing cycle, frequency and terms, the company can predict when cash will be received and deposited,” Papazian says.  

Cash flow projections should be done at a high level at least quarterly if you don't anticipate any cash flow constraints. Prepare cash flow projections monthly or weekly as cash becomes more of an issue.

—Rob Stephens, founder, CFO Perspective

To do the revenue part of a cash flow forecast, many business owners focus carefully on when they can expect credit card payments to process. Other considerations depend on the business, and may include processing fees and seasonal income fluctuations.

Businesses can estimate when cash will arrive by examining customers' past payment history. A customer that normally pays within 30 days is likely to continue doing that.

Business owners can affect how much cash will come in by offering customers discounts for faster payment. They can also increase cash flow by taking out loans and transferring the owner's personal money to the business. 

3. Estimate cash out.

After identifying how much cash is coming and when it will arrive, cash flow projections look for similar insight on expenses. Business owners do this by crafting estimates for fixed costs such as rent, utilities, taxes and loans based on past bills. Variable expenses such as payroll, supplies and materials can be estimated by projecting sales and then extrapolating the amount of labor and other constituents required to produce the needed goods and services. 

“Payroll and rent are the two largest and most common expenses that require cash to be available on specific due dates,” Papazian says. Payroll taxes for Social Security and Medicare need to be factored in as well as salaries and wages, she notes.

Insurance premiums for health, liability, auto, worker’s compensation and unemployment coverage are also expenses that must be paid in cash by a certain date, Papazian says. Similarly, payments on existing loans, credit cards, credit lines, mortgages, equipment leases and the like similarly demand precisely timed outflows of cash.

Just as not all businesses will have these expenses, some businesses will have others.

“Additional expense items to include can be gathered from a review of the previous quarter or year's financial statements,” Papazian says.

4. Sum for your cash projection.

When dates and amounts of all cash inflows and outflows have been gathered, they’re entered on their projected due dates. By looking at the resulting cash plan, business owners can tell at a glance whether they’ll have enough funds to pay essential bills when they're due.

For the entire month or other period, simply subtract all cash expenses from starting cash on hand. This will be the starting cash balance for the next period's cash flow projection.

5. Save and track your projections to revise your forecasts.

Once a business owner knows how to make cash flow projections, it should become a regular task. The frequency will depend on the situation.

“Cash flow projections should be done at a high level at least quarterly if you don't anticipate any cash flow constraints,” Stephens says. “Prepare cash flow projections monthly or weekly as cash becomes more of an issue."

Technology can make forecasting cash flow less time consuming and more accurate. Templates for general-purpose spreadsheet software are perhaps the most popular aid. Dedicated cash flow planning software can integrate with popular accounting packages to further increase speed and precision, Haffoney says.  

No matter how projections are calculated, business owners should retain the worksheets used to create them. Since a projection may not match reality, it is often necessary to make adjustments during the period to account for seasonality and other business factors. As time goes by and business owners get a better sense of when cash income and outflows are likely to actually occur, it can help make future projections more accurate. 

While projecting and managing cash flow are important activities that come steeped in a measure of dread, Stephens emphasizes that a cash flow forecast can point to opportunities as well as obstacles.

“As a bank CFO, I saw many small-business owners enter the Great Recession maximizing their profits but ignoring cash flow,” Stephens noted. “The recession drained their cash flow. They lost their profits and some lost their businesses. Business owners who managed cash flow well scooped up business opportunities at steep discounts from those who didn't manage cash well.”

Read more articles on cash flow.

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