How to project business cash flow

For small business owners, cash flow management can make all the difference between thriving and succumbing to financial pressure. After studying over 100 start-up failure post-mortems, analysts deduced that 38% of small businesses die from running out of cash or failing to raise enough capital. Another study found that 82% of SMBs fail due to cash flow problems, with only 29% actually running out of cash.

These statistics demonstrate the power of financial management over business health and success. Unfortunately, it seems financial management is generally lacking in many small businesses. This might have something to do with the level of financial literacy among SMB owners, many of whom do their own finances. Whichever the case, entrepreneurs need to pay more attention to their financial management.

Lendzero's founders have been in the money business for well over two decades now. In that time, they’ve picked up on what it takes for a small business to flourish financially. One crucial financial management practice they’ve discovered is cash flow projection. Let’s discuss what cash flow projection is, its place in financial planning and management, and how it’s done.

What is cash flow projection, and why is it important?

Cash flow refers to the money or cash equivalents being transferred in and out of your business. From that definition, cash flow projections predict or forecast the amount of money moving in and out of the business over a given period. Projecting cash flow basically gives you an outlook of the business’s financial performance and health, which helps you prepare for future expenses and earnings.

Overall, cash flow projections build your financial awareness, which is essential for facilitating many other financial management practices, including budgeting, financial planning, and bookkeeping. More specifically, cash flow projection benefits your business in the following ways:

  • Informs business decisions regarding cash through insightful and accurate predictions
  • Points out potential cash flow issues, such as future cash shortages, as well as areas of opportunity
  • Helps to plan for the future — for instance, when to make certain purchases, when to tighten the budget, or when to seek external funding
  • Comes in handy when preparing a business plan for an upcoming fiscal season

How to project cash flow

Cash flow projection is undeniably vital in understanding and planning a business’s future. Now the big question is: how do you make a cash flow projection? Well, projecting cash flow is relatively straightforward — as long as you have all your books in order.

Here’s a step-by-step guide to projecting or forecasting business cash flow:

Step 1: Determine your opening balance

Your opening balance is the consolidated cash balance at the beginning of the forecasted period. For simplicity, let’s take the forecasted period to be one month. Consolidated cash balance means the aggregated sum of available cash and cash equivalent, including the cash-at-hand, bank account balances, and highly liquid short-term investment securities.

The opening balance gives you a starting point for the projection. If you’ve just launched the business, the opening balance will be zero. Otherwise, you’ll bring forward your ending totals from the previous month as your starting balance for the coming month.

Step 2: Estimate sales and other revenue

Next, come up with a reasonable sales estimate for the forecasted period. Begin by listing all your receivables and stable income streams, such as fixed returns from various investments (if any). Then move on to sales. Ask yourself how much you expect to sell during the coming month.

For an established business, estimating sales should start with an analysis of historical sales data. Doing so should give you a rough idea of future sales. You then want to find out if there are any foreseeable reasons why your sales for the coming month might be different from previous months and adjust the estimate accordingly. For instance, a price adjustment, new competitors, or new offerings might change your sales volume for the next month.

For a start-up with little to no sales, the only practical way to estimate revenue is through market and competitor research.

Step 3: Estimate your expenses

As with sales, you'll also have to estimate your business's fixed and variable expenses for the next month. Regular or fixed expenses are those expenses that do not change between billing cycles, such as rent, payroll, leases, loan repayments, and insurance. On the other hand, variable expenses, such as supplies, commissions, and piece-rate labor, can change depending on various factors. You'll also want to add any one-off expenses you’re likely to incur during the forecasted month to the spending sum.

Step 4: Bring all the variables together

Once you have your opening balance, sales projections, and expense estimates, it’s time to bring the three variables into a cash flow projection. First, subtract next month’s expenses from the anticipated sales. The resulting figure will be your cash flow for that month. Then add the cash flow to your opening balance to get the closing balance for the forecasted period.

Here’s a simple example of what a cash flow projection statement looks like:

Step 5: Put the projection to good use

A cash flow projection statement is an excellent tool for predicting success and growth on a monthly, quarterly, or yearly basis. It’s supposed to help you make sound financial-related decisions before, during, and after the forecasted period.

With an accurate cash flow projection, you can anticipate revenue dips or expense spikes and take the appropriate mitigation measures well before they hit. Similarly, upcoming bumps in sales can tell you when to draw money from the business for other investments. Cash flow projections also help inform other critical business decisions, such as hiring new staff, revising prices and payment plans, expanding the business’s offerings, and venturing to new markets.

Generally, you need a financial outlook when making most business decisions, and that’s exactly what a cash flow projection gives you.

Key considerations when projecting business cash flow

Remember, a cash flow projection is not set in stone because it's based on several assumptions. First of all, sales do not always go as planned. Second, business expenses can sometimes pop out of nowhere. However, that doesn't mean you can't make fairly accurate and useful cash flow projections. The key is keeping the margin for error as low as possible, which you can do by making the following considerations:

  • Try to be as conservative and realistic as possible, especially when it comes to sales and getting paid.
  • Focus on short-term cash flow, ideally on a month-to-month basis. The longer the projected period, the wider the margin for error.
  • Create several cash flow scenarios to cover as many outcomes as possible.
  • Review and adjust your projection accordingly every time the business experiences a significant financial shift.
  • Analyze your projections at the end of every forecasted period against actual sales and expense reports to fine-tune your estimates for the next cycle. In other words, learn from past cash flow projections to improve your forecasting game.

More about Lendzero

We mentioned earlier that Lendzero is in the money business, but actually, we're in the business of helping SMBs with their finances. Lendzero is an online lending service that matches entrepreneurs with the funding resource they need to launch and grow their ventures.

Our automated service enables small business owners to explore and access dozens of funding offers from a multitude of legit online and institutional lenders. Moreover, all the offers come prequalified and pre-negotiated, so you don't waste valuable time haggling with lenders.

If you’re looking for a way to streamline and strengthen your finances, SMB-friendly funding is the answer. Create a free Lendzero account today and start incorporating business lending into your next cash flow projection and overall financial plan. Please browse our website or contact us to learn more about stress-free small business lending.

Related Articles
Funding Choices