Forecasting cash flow: a step-by-step guide for businesses

Understanding cash flow: Part 3

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The different approaches to forecasting cash flow, how to execute them and how they can help you manage your business.

Read time: 5 minutes

  • Be realistic in your forecast

  • Understand the challenges of your sector

  • Assess what tools and support is right for you

  • Iterate and revise regularly

Whether you’re just starting out or a more established business it is important to recognise that a cash flow forecast is incredibly important tool for ensuring the health of your business. If you don’t forecast your cash flow it becomes incredibly difficult to make informed decisions about the future of your business, adapt to crises or set a long-term plan for growth. Read on for our six-step guide to cash flow forecasting. 


Find the rest of the series here:

Step 1: Understand the cash flow forecast

What is a cash flow forecast?

A cash flow forecast is a document or software programme that helps you understand the inflows and outflows of cash in your business. Using a cash flow forecast can help you to see where your business might be in the future, manage liquidity and meet obligations. Here are some reasons why you should set up a cash flow forecast: 

  • Liquidity planning
  • Debt reduction
  • Identify potential shortfalls 
  • Assess whether the business is achieving its revenue forecasts
  • It identifies cash flow timing challenges 
  • Debtor and creditor control planning

Step 2: Think about your goals and what you can control

What data and timescales are involved? You can control the money that you pay out of your business but cannot control the money coming in.

There are two categories of cash flow forecasting: direct and indirect. 

Direct forecasting is used to measure short-term liquidity in the immediate term. It tries to identify when payments will be made to the exact day, week or month. Typically, it relies on actual invoices, bills, taxes and data. It is the more accurate method and useful for short-term decision-making at your business. 

Indirect forecasting focuses on the long-term, typically a year or more. The process is simpler by comparison and uses the balance sheet, profit and loss statements etc to predict the future cash flow of your business. It’s a useful tool for planning long-term moves when the business has a lot of transactions and other moving parts such as investment and loans. 

To get started: 

  1. Calculate your net cash flow. Add the totals from each of these categories. The result will be the net cash flow for your operating, financing and investing activities. 

  2. Add the columns together. Once you have added together the balance from your three business activities, you will have your monthly or yearly cash flow balance. A positive number shows that you have positive cash flow. A negative number means more money has left the business than it has received. 

Step 3: Consider a software solution

To automate or not to automate?

You may prefer to manage your cash flow using a spreadsheet because it means you’re on top of all the incomings and outgoings from your business. It is a cheap, cost-effective way of managing your cash. Many templates are freely available online and from here it is possible to build a truly bespoke cash flow forecast for your business. If you have a financial controller it is likely they will have their own system. Downsides of a spreadsheet based forecasting include human error and time.

Increasingly businesses are opting for automated software and it is fast becoming the norm. You must ask yourself whether a monthly subscription charge is worth increased efficiency, a reduction in risk from human effort and real-time feedback. 

Step 4: Always check for errors 

What mistakes can be made when forecasting cash flow? 

Managing cash flow can be a daunting process. Here are some common mistakes businesses make when forecasting.

  1. Overestimating sales

  2. Leaving invoices unpaid

  3. Avoiding the bank

  4. Using an outdated system

  5. Leaving loan applications too late

  6. Inaccurate numbers

  7. Unaware of tax liabilities

Step 5: Look for the signs of success

What does healthy cash flow look like? 

To understand the health of the business you need to assess each aspect of the cash flow statement. So, what do you need to know? 

  • Positive net-cash flow is a sign of business viability. Without it, there is a need to obtain support finance or investment which will help progress the business enough to get to a stage of positive net-cash flows.
  • Stability. A healthy company takes cash from financing during expansion periods and pays it off from operations or investing in the era that follows. 

Step 6: Revise and iterate

How can you improve your cash flow forecasting?

The consequences of an inaccurate cash flow forecast can be significant. While no one can predict the future, here are several ways that you make your cash flow forecast more accurate and increase your chances of success in the long run. 

  • Establish lines of communication. Ensure that the managers in your business are properly reporting their inflows and outflows. Idle funds could be needed in the event of a liquidity crisis. An effective forecast relies on accurate data.

  • Be realistic. It’s always better to under-promise and over-deliver. 

  • Forecast different scenarios. Consider your best-case forecast and your worst-case forecast and plan for each scenario. 

  • Understand the challenges of your industry. Different sectors have different cash flow issues. Make sure to understand the common cash flow pitfalls so that you can avoid falling into them. 

  • Provide cash flow training. External advisors can help your team understand areas in which errors are commonly made and also encourage buy-in from across the business. This will ensure cash flow changes are accounted for sooner than later. 

  • Use your financial support system. Accountants, advisers, and banks should be able to support you when necessary.

Conquering cash flow


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