Cash Flow: More Than Just Budgeting

We often advise companies in how to best fund growth. This begins with cash flow forecasting, which enables management to predict potential rises and falls in available cash over a period of time.

Without such tool, you will be flying by the seat of your pants with empty pockets.

Nothing is more important in financial management than a cash flow forecast, but too often it is confused with a profit-and-loss budget.  It’s best to illustrate this by example.

Forecasting cash flows

I’ll use a real estate company in this example.  The company owns twenty real estate properties, each one of which is owned by a single-purpose entity.

Step One: Our cash flow analysis began with the monthly P&L budget for each property, excluding non-cash items like depreciation and amortization.

Step Two: We then added expected changes in the balance sheet accounts, such as changes in payables and receivables, whether we were paying down debt (use of cash) or borrowing money (source of cash), and capital expenditures like tenant and building improvements. How fast your receivables, inventory and payables turn over, the amount of capital expenditures you need to make, and expected borrowing or debt repayments all factor into computing changes in the other balance sheet accounts.

Step Three: We timed each balance sheet change into the months we thought they would occur and tweaked the timing for P&L items too. We did this for a rolling twelve months, which enabled us to see both near- and long-term.

Cash flows are derived from the P&L and balance sheet working together

Cash flow forecasting is both art and science. When a business owns multiple properties or divisions the task is exponentially more complex, but as illustrated here, it can be done. Too many businesses don’t understand the interdependence of the P&L with the balance sheet in determining cash flow.

A good cash flow forecast will calculate monthly cash flows over the next 12 months. Such cash flow is the expected change in cash balances between the beginning and end of the period, which depends on changes in all the other balance sheet accounts, of which the P&L is one, when it posts to Equity.  How fast your receivables, inventory and payables turn over, the amount of capital expenditures you need to make, and how much borrowing or debt you must repay all factor into computing changes in the other balance sheet accounts.

A proper cash flow projection wins the day

While a big contract can be cause for celebration in the executive suite, without proper cash flow analysis, management may find itself struggling to make fulfill such a contract.  And when applying for debt or equity financing, this analysis is a must.  Without it, how do you size your capital request?  This single analysis impresses lenders and investors more than anything else you understand your business.

If your organization doesn’t have the expertise to do this projection well, reach out to a qualified professional who can get it done efficiently, preferably someone who has done this for many businesses and probably already has the template to use on yours.  

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