As a new business or a small business, it can sometimes be tricky to work out how to assess the performance of the company. There are a number of great Key Performance Indicators (KPI) that can help to track how well things are going, not just profit, but one thing that you should never lose sight of is the cash. Many small businesses, and in fact many large businesses, fail because of access to cash and not lack of profit.
When you have money everyone wants to lend you more, but when money is tight, it’s amazing how quickly the loan and credit offers dry up. Once you start getting a reputation for poor payment history or your credit rating falls, you can find that credit terms from suppliers disappear quickly. You can rarely rely on your customers to pay quicker to help you when cash is tight and if you try invoice factoring or similar, it can prove costly. So it is worth keeping on top of cash. In many small businesses, it is more important to monitor the cash than any other metric. Forecasting cash is imperative, whether you are FTSE listed or a small local business just starting out.
The actual process of forecasting cash can be daunting and is very difficult to get right, but having a forecast will help you to see the points in the month and the year when things start to get tricky. That could mean that you delay a purchase by a month, or choose a monthly payment option on your insurance renewal and avoid an awkward conversation with HMRC about an unpaid tax bill.
For many businesses you can have a reasonable thirteen week cash forecast without even having a reasonable forecast for the overall business. That is because a lot of what happens in the next few weeks in your bank balance has already been set by the events of the weeks before and the terms you’ve agreed with your customers and suppliers.
The key areas for a functional cash forecast are what you already know - current outstanding invoices and customer accounts; and what don’t you know yet - future bills and sales. For anything that you already know about, it should be fairly easy to produce a reasonably automated process that sets out the expected cash impact, based on past experience and contractual terms. You simply take your debtor and creditor ledgers by due date and use them to schedule out when you expect to receive or pay the cash. It is always worth being a little bit more cautious about when the money will come in from your customers than when it will go out - you can only control one of them. The tricky part is the expected future transactions. For staff costs it might be quite easy if you are mostly salaried, but if there is overtime and hourly rates then you need to think about how busy your business is going to be and put together a reasonable estimate - or plump for the pessimistic view and include a high figure which you know will be more than enough in most months. If you have a forecast or budget for your business, that should be the basis for your cash projection, but don’t forget that the timing in the cash forecast will not match the timing in the P&L. Ideally you want a cash forecast by week, well ideally by day but let’s not get too far ahead of ourselves, so if your budget is by month then you should spread that out across the weeks. Don’t be afraid to adjust the budget if you are now operating at a different level to what had been projected previously. The cash impact of the budget then needs to be broken out depending on how it will impact cash, cash sales v credit sales, cash purchases v credit purchases, big one offs v regular payments. You also need to consider the impact of non cash items, for example your budget may include depreciation, which has no place in a cash forecast.
With your actuals spread out over the next few weeks and your budget cash impact scheduled out in the same way, it should now be simple enough to put the two together and see what the answer comes out as.
If you need help to put together a forecasting tool, get in contact and we can get started.