Don’t run out of money might be the first commandment of any successful small to medium enterprise (SME). You need cash on hand to pay your employees, service your debts, and keep your supplies rolling in on time. In short, you need to cash to keep your business running.
Cash forecasting is the tool you need to make sure you have the cash you need. Instead of looking at accounts payable and receivable (AP and AR), cash forecasting predicts how much actual money you will have on hand to meet your responsibilities. In addition to keeping you solvent from day to day and year to year, cash forecasting has other benefits, too.
Identify Potential Problems Ahead of Time
Cash forecasting can be like a check engine light with premonition for your finances. You can spot trouble spots months ahead of time and plan your way around them. In doing your first-quarter forecast, you might discover that you will have additional expenses in March, or perhaps you will have shipped sales or provided services that aren’t due to be paid until April. Your sales will show up in your AR report, but you probably won’t actually see the cash until April. By predicting this sort of shortfall in March, you can reduce expenditures in February or secure a line of credit with your bank to prevent problems before they happen.
Plan ahead to keep problems from ever occurring.
Your employees depend on you to provide them with a reliable paycheck. They count on that money to meet their household expenses, pay rent or a mortgage, and buy groceries. Your suppliers are in business just like you. They need your payments to meet their own expenses. Neither employees nor suppliers will want to do business with you if they can’t depend on you. Being a reliable partner will establish trust and goodwill that is invaluable in running your business.
You need to make larger expenditures sometimes to keep your business running. Maybe it is time to upgrade all your laptops or invest in that software you need to manage your growth. Be careful. Longer-term forecasts may not be as accurate as short term ones. Nevertheless, your cash forecasting can help you be strategic about when to make more significant investments, how to spread the expense if necessary, and when it might be a good idea to delay a more substantial purchase. Forecasting also helps you put some of your revenue aside for a rainy day, because there will always be rainy days, and expenses or slumps you can’t predict.
Cash forecasting is one of the basics of business. In 2018, CB Investments did an analysis of 101 failed startup businesses. Of those 101, the second most common reason they failed was that they ran out of cash. Cash forecasting is essential for avoiding disaster.
A solid cash forecast is also something your investors will need and something a bank will want to consider before doing business with you. It should be a living, breathing part of your business, updated continually, and consulted often. Cash is king, don’t be caught without it!