Many a business has been brought to its knees from lack of cash, not necessarily lack of profits. A cash-flow forecast will let you understand what your cash inflows and outflows are so that you can manage a potential issue before it’s too late.
I usually focus on a 12-week rolling cash flow (always projecting 12 weeks in advance) so that any in month, issues are highlighted.
Forecast your receipts by looking at what invoices have already been issued to clients plus what you are likely to invoice within the forecast period and will be due for collection. For example, if you usually issue invoices at the end of the month and your payment terms are 14 days you should have on average three “lumps” of receipts in your forecast.
With payments look at your biggest payments first, such as:
- Wages or contractor payments
- Regular materials or supplier payments
- Regular utility payments (electricity, internet, mobile phone and telephone)
- Rent or office lease costs
- Tax or compliance payments (e.g. income tax and GST)
These payments could be weekly, monthly, quarterly or annually.
Once you have filled all these in, look for danger weeks over the three months. Do you need to shift the timing of some payments or invoices so you can collect earlier?
Aged debtors report
All clients are not created equal. Some pay on time; some don’t. An aged debtors report lets you track which invoices are past due so that you can get in contact and give them a reminder. Keeping on top of aged debtors also helps you manage issues such as invoice disputes or invoices not received by the client.
Keeping a close eye on your ageing also helps your cash-flow forecasting.
Want more articles like this? Check out the financial management section.
Profit and loss statement
Your profit and loss account is not the same as your cash, and this is often a point of confusion for many business owners. Your profit and loss account summarises all transactions relating to how the business traded during that period.
Cash accounting is similar to keeping a running total on your bank account. Accrual accounting (which is what your profit and loss statement is ideally based on) gives a truer picture of how your business is actually performing. It makes adjustments for transactions that have not yet affected your bank account but also cash items that span over a longer period.
For example, if you are paid in advance for work you have promised to perform, that cash is now in your bank account but is not income you have earned yet and therefore shouldn’t appear in your profit and loss statement. You still owe that work to your client.
Equally, if you pay an annual subscription the cash will leave your bank account in month one, but your business will “use” that service over twelve months.
Your profit and loss statement will adjust for these timing differences so that you can have a fair representation of how your business is performing.
Your profit and loss statement will also show you the net margin your business is operating at (total revenue less total costs). You should also keep an eye on your gross margin (total revenue less direct costs). Direct costs are the ones you need to spend to generate your income, for example materials. Your gross margin is what you use to pay for your overheads or fixed costs, such as your office rent. Your office rental costs will not change whether your income in a month is $0 or $10,000, whereas if you earn $0 your direct costs will also be $0.
Your balance sheet is a list of all your assets (what you have) and your liabilities (what you owe). Your shareholders equity or net assets (total assets less total liabilities) is the sum total of how much you have invested in the business at any one time.
Do you look at these key financial reports regularly, and which do you find most useful?