Cash flow forecasts are critical no matter the size of your business. Knowing how much money comes in and goes out with some predictability allows you to plan effectively. You can be a profitable company and still run out of cash every month. That's why cash forecasts are essential.
Profit is potential cash in hand. The cash flow forecast predicts when the profit will be realized and manifests as money you can spend. When it comes to cash forecasting, accuracy is everything, and automation can help generate far more precise predictions of cash inflows and outflows than any manual process.
What is a cash forecast?
A cash flow forecast is a straightforward and deceptively simple-looking report that shows how much money is anticipated to come into the company from paid sales invoices and how much money will flow out of the company to cover operating expenses and other costs.
An accurate cash forecast is critical.
The more reliable your cash forecast, the more you can minimize external sources of financing, such as lines of credit, to cover operating costs.
Some of the top issues caused by not precisely predicting cash flow:
- Lost opportunities
- Faulty scenario planning
- Inaccurate risk assessment
- Uninformed decision-making
- Misalignment between goals and operational realities
- Not knowing your break-even point
- Inability to grow your business
Tracking the cash forecast is important regardless of business size.
No matter how large or small your company, you need reliable cash flow. You must be able to predict, with certainty, how much money your company will realize from sales so that you can make decisions around hiring, expansion, payroll, investments, and other critical expenditures.
If you don’t know how much is coming in, you can’t know how much you can spend. Committing to expenses without knowing how you’ll pay for them is risky business and not a recommended practice for a company of any size. Every business needs an accurate cash flow forecast.
How does cash forecast accuracy vary by business size?
When calculating cash flow from paid invoices, some factors that influence your extrapolation include:
- Historical sales data
- Forecasted sales data
- Payment terms
- Customer payment history
Businesses of all sizes have this data on hand, but the amount of data can vary widely.
Quantitative vs. Qualitative Analysis
With any predictive model, the more data you input, the greater the accuracy of the output. Cash flow prediction, ideally, is a quantitative science, but you need a large quantity of data to model behavior and outcomes with accuracy. With a big business (or business of any size with a long history), you'll have more inputs.
With less data, you are forced to rely on qualitative analysis, which is more about guessing what will happen based on non-data points. New businesses that have short histories will have few data inputs. Small businesses will have narrower arrays of inputs, even if they have track records.
The result is that larger companies, with big data to fuel their models and automated tools generating the forecasts, should have more accurate models. Smaller companies tend to have less accurate reports because of manual processes and less data.
Large companies need cash flow predictability because they make big-dollar decisions based on these forecasts. Meanwhile, small companies have less risk tolerance and desperately need accurate forecasts but are less likely to create them.
Cash Forecast Variance
Variances in the accuracy of cash forecasting by business size are likely attributable to the tools used to generate the forecast and the quality of data fueling it. Quantitative analysis driven by lots of data points should be reliable, particularly when the forecast is computer-generated rather than parsed by hand.
In small companies, you have less data and are more likely to be churning a cash flow forecast by hand and guesstimating cash influx based on a flat percentage of sales or accounts receivable you hope to receive each month. It’s simple math rather than a sophisticated predictive algorithm.
No matter the size of your company, you should be looking ahead with cash forecasts and reconciling the forecasts back to actual monthly results. Variance analysis informs future predictive models, whether you’re using automated or manual reports, and can alert you to an impending cash crunch.