LALI Business Consulting Pty Ltd

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Financial management: Cash flow forecasting – What, why & how?

Cash flow management is critical to a successful business. Cash flow management is a key aspect of financial management of a business planning its future cash requirements to avoid crisis of liquidity.

Even highly profitable businesses fail to succeed in long run because they fail to manage and monitor their cash flow properly as part of their financial management process.

Why cash flow management is critical part of financial management?

Every business requires cash to pay their suppliers of goods and services, it’s employees and to meet the financial liabilities like loan repayments and interest charges from financial institutions. Cash is also required to pay taxes and service the shareholders for their investments.

Failing to meet the payments due timely for suppliers, lenders and others on time will affect the performance of a business. If a business fail to pay it’s suppliers on time it will affect replacing their stocks on time and therefore the business will loose some potential sales.

Cash flow forecasting will help a business to manage it’s cash flow.

What is cash flow forecasting?

Cash flow forecasting is a periodic plan that shows when a business receives and pays cash.

It is different to other financial management tools such as a budget or the financial reports, which main focus is on profit/(loss) of a business and usually based on accrual accounting (accounting for future cash out flows for present activities).

How to prepare a cash flow forecast?

A simple operating cash flow forecasting begins with the the cash balance in the bank at point in time. The next step is to predict the cash inflows, which are the cash receipts from customers and other receipts like interest received on deposits, receipt of dividends etc.

We will add this cash flow to the cash balance in the bank. The next step is to predict the cash out flows. The cash out flows are the payments made to staff, suppliers of goods and services and repayment of loan and interest charges to financial institutions. We subtract this from cash balance in bank.

Net cash flow is the amount of cash business able to generate or loose during a period carrying on a business activity.

Net cash flow = Cash at the beginning of the period + Cash inflow – Cash outflows

Why cash flow forecasting is important?

Cash flow projections will help a business to know the cash flow situations in advance and manage it’s activities accordingly. It will help the business to negotiate with it customers and suppliers and invest its positive cash flows to generate more profits to business or distribute dividends to it’s shareholders.

Monitoring the forecasted net cash flow position at the end of each period is an essential part of the financial management of the business.

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This entry was posted on 05/12/2011 by in Financial management.



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