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Weekly Cash Forecasting

November 04, 2020 8:00 AM | Jonathan Augelli (Administrator)

Richard Branson famously said, “Never take your eyes off the cash flow because it is the life blood of business”.  This is great advice from an accomplished entrepreneur. Unfortunately, many business owners do heed it. Many companies do not regularly forecast cash flows. While it may not seem important if everything is going well, there are a multitude of benefits from this simple exercise that can help your company regardless of your overall business health. Not only does it give owners a better understanding of their company’s liquidity over the short to medium term, but it has a host of other benefits as well. These include reduced costs, increased efficiencies, better coordination within the organization, and several others.

Why Create a Weekly Forecast

Many owners are skeptical of creating cash flow forecasts. They think, “We aren’t in trouble and don’t foresee any issues”. Well, did you foresee Covid-19? Did you know exactly when the 2008 financial crisis was going to happen? There is always uncertainty in the future. If you wait until you are in a distressed situation to create a cash flow forecast, it may already be too late for you to affect it. Furthermore, your forecast will likely be hastily thrown together, and will not include any of the wisdom or insights into your business gained from long history of forecasting, comparing, and revising your cash flow estimates. No matter how much liquidity you have now, there are always limits on liquidity. It is wise to know these limits and keep an eye on them.

Many owners also think, “We can’t afford it” or “We do not have the time, staff or resources to put a cash flow forecast together”. The truth is you cannot afford not to forecast. The understanding gained from forecasting your cash flows does not just help prevent a liquidity crunch, it can lead to greater integration across the business, lower costs, and more effective deployment of capital.

Lastly, a lot of owners ask why they have to do it weekly? Why not monthly? Monthly forecasts are fine for looking for overall trends in cash position but the sampling rate is too low. Monthly forecasts will not catch drops in cash mid-month, which is especially important if you know you have a significant expense due mid-month (ex. Payroll). A more granular, or higher frequency, forecast will capture this kind of fluctuation. Daily forecasts would be great, but revising forecasts daily is just too onerous. Weekly forecasts achieve the right balance.

What are the Benefits of a Weekly Forecast

As I mentioned before, the main reason is to gain a deeper understanding of your company’s liquidity over the short to medium term. A cash flow forecast will give you an early warning of an impending cash crunch and allow you time to react. However, an increased understanding of your liquidity is not the only benefit of weekly cash flow forecasting. There are a number of others.

It instills a “Cash Flow” is reality mindset

Accrual accounting and GAAP can conceal the actual changes in the cash balance of a business (as I discussed in my Financial Statement Fundamentals post). This is especially true for seasonal businesses, business with large, deferred revenues, or business using various revenue recognition methods that do not align with cash inflows. Focusing on the actual cash flows can uncover near-term issues quickly and allow you time to react. Furthermore, focusing strictly on the cash flow forces discipline.

It enhances your understanding of the cash required for growth

Growth often constrains cash flow because you are required to outlay cash to increase your inventory before you can sell it and collect cash. It is possible to grow yourself into bankruptcy. Regular forecasting helps you to understand, anticipate, and plan for these cash constraints, and obtain adequate financing when required.

It enhances Your Understanding of your External Business Relationships

Focusing on cash inflows and outflows forces you to examine when you actually receive cash from customers and when payments are actually due to suppliers. This helps you identify which customers always pay on time, or even early, and which ones usually need a little reminder.

NOTE: When you reach out to them to remind them of their upcoming payment, or to check in on why you have not received it yet, take advantage of the call as an opportunity to generate more business (assuming you want to keep doing business with them). This obviously depends on your relationship with your customer (or contact there) and your industry. I have successfully used this technique in the past in the construction industry when speaking to project managers. 

On the supplier side, one advantage of forecasting is that it requires you to review the payment terms of your suppliers. In general, you don’t want to pay suppliers earlier than you have to. If they do not expect payment for 30 days and don’t offer discounts for paying early, then just pay them at 30 days. On the flip side, some suppliers may offer discounts for early payment. If your forecast shows you’ll have enough cash, you should normally take the discount. In our earlier article on managing working capital I cover the costs of not taking a discount – you’d be surprised. As you review your suppliers, also consider which (if any) you have a good enough relationship to maybe stretch the payment terms in a pinch.

It enhances your understanding of your internal business relationships

Accurate forecasting requires communication between departments and individuals across the organization. If you want accurate estimates, you must talk to accounts payable, accounts receivable, purchasing, sales, HR, etc. and incorporate their insights into your model. Repeating this practice each week allows you to understand their operating patterns and cycles and can give you insights into your business.

It improves your use of cash

More accurate forecasting and management of your cash position means less frequent borrowing, which reduces your interest expense. Knowing how much cash you need on hand to cover expenses allows for better use of excess cash. Instead of sitting in a bank account earning no interest, you can put the excess cash to work. This can include further investment in growth opportunities, debt reduction, increased distributions to owners, etc.

How to Create a Weekly Forecast

Now that we’ve seen that weekly cash flow forecasting is essential for all businesses, how do you go about creating one?

First you need to decide how far out your forecast will extend. You must project far enough out to give yourself time to react to issues your forecast uncovers. However, the further out your forecast extends, the more effort it takes to update each week, and the more speculative your numbers become. Try to strike a balance.  Within one month most firms can use their actual accounts receivable and accounts payable aging reports to create their forecast. However, past one-month, most companies must rely on estimated future sales and expenses, which are less accurate. Again, this varies between companies and industries. 13 weeks in advance (the number of weeks in one quarter) is the industry standard.

Next, you’ll want to create a spreadsheet. Across the top create columns for the weeks you want to include in your forecast. I also recommend including the last four to six weeks of actual historical numbers for reference. Along the left-hand side, create two sections, one for cash receipts and one for cash disbursements. See the example below.

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Then fill in the table. Remember that you need to record when cash actually hits your bank account for cash receipts and when the cash actually leaves your bank account for cash disbursements.

NOTE: One common point of confusion, when you pay an expense with your company credit card, the cash has not left your company yet. It leaves your company when you pay your credit card off. Make sure to account for this nuance in your forecast.

When completing this exercise, remember, it is a cash flow forecast so do not include non-cash items in your estimates. You have to break the accrual and GAAP reporting mindset. Don’t think about revenue, think about cash receipts, especially if you are in a business that takes payment upfront and recognizes revenue over several months, or if you use various revenue recognition over time methods. Don’t think about Cost of Goods sold, think about the purchase of inventory. Leave out depreciation, monthly journal entries reducing prepaid expenses (ex. Prepaid insurance with monthly entries made), goodwill impairment, etc. We are just focusing on cash. Cash moving in, and cash moving out.

When you are finished, subtract the cash outflows from the cash inflows. The result is your change in cash for the week. Finally, add two additional lines at the bottom of the excel file: one for beginning cash balance, and one for ending cash balance which is simply the beginning balance plus the forecasted change in cash.

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If you are showing a deficit consider ways to increase cash receipts, delay or decrease cash disbursements, or figure out how to gain access to additional funds.

NOTE: Quick point about treasury management. If you need additional funds in one account, always draw from the least expensive funding option. If you need cash in your business checking account and have to draw money from a business savings accounts paying 0.25% interest and a money market account paying 0.40%, take the money from the 0.25% interest account since you are foregoing less interest income. If you must choose between a line of credit that charges 5.25% and drawing from a savings account that pays 0.25% interest, draw money from the savings account.

Tips & Tricks

Like anything else, cash flow forecasting takes practice. Your accuracy should increase as you continue week after week and become more familiar with the nuances of your firm. To help get you started, here are some tips and tricks I’ve found useful:

  • Sort your expenses from largest to smallest. According to the 80/20 rule, roughly 80% of your cash outflows probably come from 20% of your payables (or vendors). These are the large items you will want to spend the most effort trying to accurately estimate because they can throw your whole estimate off if you get their timing wrong. In almost every company this includes payroll as one of the top items. Many companies also have inventory purchases up here. By the time you have listed these top 20% of vendors it is usually ok to group the smaller remaining outflows into a few line items and spread them across the forecast. It isn’t really worth spending as much time trying to pinpoint when you have to pay a $100 expense as it is for a $100,000 expense. You can always make it more detailed in the future if you need to.
    • Some companies also find it helpful to sort by critical and non-critical vendors or to do this instead of sorting by largest to smallest. I find the critical vendors are often the same as the vendors in the top 20%. I usually recommend sorting by size and then indicating the critical vendors if you wish to either by color coding, or some other method.
    • Depending on your customer diversification and sales structure, it might also be helpful to breakdown your cash inflows in a similar manner. Determining exactly when you will receive payment for invoices can be challenging. Be realistic with your forecasts. Don’t just assume every customer will pay within your payment terms.
  • Create a feedback mechanism so you can learn from your mistakes. Save a copy of your forecasts, and then compare it to the actual results when you update your forecasts. Note differences between the two, dig into things for clarification if needed, and write down notes. Often you will realize patterns, such as certain customers always pay late or payroll taxes are higher in the beginning of the year before the wage caps are reached. You may also identify costs you forgot to account for (ex. Property taxes paid once per year) and you will gain a better understanding of how things like holidays affect the timing of expenses. Maintain this practice even after you feel like you have a solid handle on things. In business, as in life, change is the only constant.
    • It can be helpful to create a calendar to go with your notes so you don’t forget those once-per-year or once-per-quarter expenses.
  • Develop a network of people in other departments you check in with for information that could affect the forecast and make a habit of doing so weekly. Not only will this improve your forecasts, you’ll be surprised by the other benefits of this increased, interdepartmental communication.
  • Update your forecast to incorporate management’s response to it. If you are forecasting a cash crunch and management decides to delay some expenses or draw on the line of credit, update your forecast accordingly. This may result in two versions, the initial, and the one incorporating management’s response. Save the second version for future comparison and forecasting.
  • Follow through on the response to the forecast. If management decides to delay some expenses, make sure to tell that to whoever normally makes those purchases. Otherwise they will carry on with business as usual.
  • Be sure to account for all the locations you have cash. If you have multiple bank accounts, or a PayPal and/or a Stripe account with a balance, include those in your cash balances.
  • Garbage in, Garbage out. (G.I.G.O.) I’ve said it in every post I have related to financial modeling and analysis. If your information is junk, your forecasts will be too. Make sure you have accurate accounting records which include all revenues, expenses, and relevant transactions.

Over the last few years, there has been an increased effort to use A.I. and automation to help reduce the burden of weekly forecasting. While I am all in favor of leveraging technology to reduce workload, I am always a little leery of any automated forecasting programs. In my experience they analyze previous data looking for patterns to generate a forecast for the future. This is fine for identifying trends, and it can shed some light on patterns or cycles in your business. However, it is a poor substitute for your foresight and does not replace a forecast based on input from various departments across your business. You should not drive a car by looking only in the rearview mirror, nor should you create a forecast by looking only at historical information. Always review automated forecasts and incorporate your knowledge and experience into them.

Lastly, the most important tip I have is this: just start. That is the most important piece of advice. Even if it is just with a simple 30-day forecast. As you continue to build the habit, you can add more details, and extend your forecast. But the most important step is to just start.

Conclusion

Growing your business without careful cash management can create cash flow shortages, and in severe cases, bankrupt your company. Conversely, intelligent management of cash gives you an edge for daily operations, handling crises, and growing your business to new heights. Cash flow forecasting is essential to sound cash management. It can give you new insights into your business, give you more time to react to crises, and can lead to more efficiencies and reduced costs. Once you’ve gotten into the habit of weekly forecasting and see the benefits for yourself, you wonder why you didn’t start sooner.


About the Author:

Jon Augelli is a licensed Professional Engineer, Certified Management Accountant, Certified Financial Modeling and Valuation Analyst, and is the founder of Augelli Consulting, LLC. He has a passion for helping business owners achieve their dreams by growing their businesses and preserving their legacy. He does this by offering Fractional CFO and Exit Planning Services to small to mid-sized business owners across Southern Wisconsin. He has advised companies in a variety of fields including engineering, legal, healthcare, fitness, and e-commerce, and has navigated multiple business ownership transitions. For questions regarding topics discussed or CFO & Exit Planning services contact him at: jaugelli@augelliconsulting.com or 608-352-3332


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