Cash Flow Forecasting
What is Cash Flow Forecasting?
Cash flow forecasting is a central part of a company’s financial management and operations. A cash flow forecast projects where a company stands based on anticipated revenue, payments, and receivables. The importance of a cash flow forecast is to ensure that a business has enough money to cover their expenses and stay operational. Without it, a business cannot function and could quickly go into debt or out of business.
There are two types of cash forecasting: direct and indirect. Whichever method you use depends on what your company needs to calculate, either short-term or long-term cash flow, and who you need to share the findings with.
Direct forecasting is the best method for short-term projections. It’s very accurate because it uses known cash flows from receipts and disbursements to produce concrete numbers. It calculates the actual cash that is coming into the business, transaction by transaction.
The downside to this method is that it’s difficult to create, especially for larger companies, since they have many transactions. Most bankers, accountants, and investors do not like forecasts in this form. Accuracy also decreases as the time period in question lengthens.
The formula is: