How to prepare cash flow projections that spark business success

John West, CPA, CGMA, director of finance, SS&G

John West, CPA, CGMA, director of finance, SS&G

Cash flow management is important for business owners who need to know where they stand on a daily, weekly, and monthly basis in order to pay bills and employees on time. If, for example, a business owner unexpectedly discovers he or she cannot purchase inventory, it can shut down his or her operation, says John West, CPA, CGMA, director of finance at SS&G.

Cash flow management is a far different world for larger corporations, he says, as they tend to closely monitor cash flow and run their organizations as lean as possible — something smaller companies could learn from.

“To some degree, you’re just not exposed to it when you are a smaller company — you’re not thinking in that mindset.”

Smart Business spoke with West about how to handle cash flow management.

How does cash flow forecasting act as a warning system?

Many organizations consider cash flow on a weekly basis — looking at payables, accounts receivable, inventory, payroll, etc. By monitoring on a weekly or at least a monthly basis, businesses can foresee and fund potential shortfalls and not go out of business. For example, if they know they’re going to fall short in six months, they can obtain a line of credit or fund fixed assets.

Where do businesses get into trouble with cash flow and cash flow projections?

Fundamentally, it’s misunderstanding how cash flow and cash flow forecasting works in their operation. Problems also come from not realizing how business seasonality impacts cash flow. When receivables and inventory grow, cash is needed to cover them.

It’s important to do projections one to two years out. Many organizations don’t go out that far; they just do it on a quarterly basis. That’s more just looking at the current status as opposed to a projection.

How can companies guard against overly optimistic projections?

Payables and payroll can be fairly predictable, other than inventory fluctuations, so finance can do a great job at monitoring those. Overly optimistic projections usually come down to an overly optimistic sales forecast, so have finance take a hard look at changes, trends and new customers.

How should cash flow and shortfalls be managed?

Organizations should obtain a line of credit, even if they don’t need one. Once they run into trouble, lenders are far less likely to lend. There’s no interest charge to have available credit sitting there.

Another strategy is using a corporate credit card through the payables department. Wait 30 days to make a payment, and then put it on the card to get up to another 30 days.
Financing fixed assets is something a lot of organizations don’t do, but rates are great right now. Banks are very willing to give three- or five-year loans on fixed assets, which can help with a shortfall for the year.

It’s key for businesses to focus on collections by contacting their customer base and sending out reminder letters. Receivables shouldn’t go past their terms. If they are causing delays it could cause a cash shortfall.

Pushing out payables and extending terms is another more recent cash management trend. Some organizations send out vendor letters, stating they are pushing their payment time back X number of days. Otherwise, it’s something that could be considered when entering into a vendor agreement. Also, weigh vendor discounts against payment terms to see if the value is offset by potential shortfalls.

Finally, no one wants to say it, but it might be necessary to eliminate expenses, such as payroll, inventory and even whole product lines.

If business owners aren’t ‘numbers people,’ how should they tackle cash flow?

Businesses should calculate their projections to understand their current position, even if it takes outside accounting help. However, cash flow projections can actually be easier in small and midsize businesses because owners are more involved day to day.

If there’s a shortfall, accept it and move on. It’s hard to face the fact that there’s trouble, but it already exists. Now it’s just a matter of putting it on paper and dealing with it.

John West, CPA, CGMA is director of finance at SS&G. Reach him at (440) 248-8787 or [email protected]

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