You may have a budget and may be fortunate enough to be tracking to budget, but in the current economy with mandated shutdowns and unpredictable revenue, you must also have a cash forecast. A cash forecast can help you quickly adjust your operations to avoid running out of cash.
Most companies on the brink of failure get into trouble because they run out of cash and did not see the problem in advance. This is especially true of companies that were growing prior to this downturn. A well-developed cash forecast should predict a cash issue months in advance. If you see the problem coming, time is on your side to resolve it. Banks can be helpful if you approach them early with a potential problem that is well documented along with your solution. Current government programs such as the Payroll Protection Program (PPP) can also provide much-needed cash to help you retain employees and pay healthcare benefits, rent and utilities.
Your cash forecast involves your profit and loss budget but, more importantly, involves changes in your balance sheet. The cash forecast must be balanced back to your profit and loss budget. Changes in items that impact cash such as capital expenditures, inventory turnover and increases in accounts receivable and accounts payable must be included. Be sure to look at your line of credit availability as part of the cash forecast. If your business revenue is declining, this tool may be more important than your profit and loss budget. Be sure to include the following cash impacts as you develop your cash forecast:
- How much will your accounts receivable go up if your customers are experiencing revenue or cash flow problems? This will use up cash and/or available lines of credit quickly.
- How much inventory can you liquidate to free up cash or reduce accounts payable?
- Will the liquidation of inventory only cause an increase in accounts receivable which would not free up the cash you need?
- If you have leased space, would it make sense to downsize and reduce the monthly lease expense?
- If your revenue is down, what adjustments can you make to payroll and other direct operating expenses to conserve cash?
If your projections show a significant use of cash, evaluate operational options:
- Can you increase accounts receivable turnover with a change in your terms? Consider offering a cash discount for payment of accounts receivable early. While this may seem counterintuitive during a business downturn, the timing of cash receipts is never more critical.
- Will your vendors give you longer dating on invoices to help finance you during this downturn? Many vendors will work with you if you continue making purchases regularly.
- Will your bank extend or allow you to suspend debt payments temporarily? We often see reluctance to discuss cash flow issues with lenders, but it’s best to keep them informed, as their flexibility and willingness to work with you can be the difference between success and failure.
This is a small list of items that must be considered and documented in a cash forecast in order to effectively manage through a crisis.
The cash forecast is a moving monthly forecast that should tell you what is about to happen. It must be updated at least monthly based on actual results. Currently, many companies will update their cash forecast daily or weekly, as conditions have been changing rapidly. If cash trends are negative, start taking action immediately to reverse this trend and don’t be afraid to ask for help. Proactive cash management is the most effective way to secure the future of a business.
If you need help creating your first cash forecast, our Nperspective team has spreadsheet models we have used at our clients for many years that can help you create your first cash forecast quickly. We can also assist you in applying for PPP loans and other financing incentives. If the current downturn shows you potentially running out of cash, we can help you assess options such as a Chapter 11 reorganization. These considerations can be very advantageous, but you must start this process long before you run out of cash, and a good cash forecast is the one tool that will allow you to see into the future and help you make better decisions.