Business planning - Financial planning
Step 2 - Cash flow forecasting
There are two types of cash flow statement that you will come across, these are:
- Actual cash flow statements - these show an historic view, showing the actual flows of cash into and out of a business that have occurred over a previous trading period, e.g. 6 months, or 1 year.
- Forecast cash flow statements - these show the expected flows of cash into and out of a business over a trading period in the immediate future, e.g. next 6 months or year.
When looking at preparing a business plan, it is obviously the second of these that we will be doing, and generally businesses are more concerned about forecasting cash flow, as this helps them to see the need for any short-term financing.
Preparing a cash flow forecast
The cash flow forecast essentially has three separate parts to it. They are:
- Projected revenue
- Projected expenses
- Balance
When planning your business, you will need to draw up figures for each of these items, so think carefully about how many you think you will sell and when and what all your possible expenses will be and when they will need to be paid.
Remember the cash flow shows when the cash is actually paid or received - this is not necessarily at the same time as the sale or purchase is made.
Let's look at an example. Let's say you have forecast the following, and the business will be starting on January 1st next year:
- Sales will be £950 per month, but with one month credit given, so the cash is received one month after the sale is made.
- Expenses will be:
- Rent - £200 per month - payable immediately
- Raw materials - £100 per month - but with one month credit given
- Wages - £250 per month - payable each month
- Rates - £400 per quarter - payable every three months (first payment in January)
- Electricity - £55 per quarter - first payment in March
- Travelling - £75 per month - payable immediately
- The opening business bank balance will be £250
From this information we can prepare a cash flow statement for the first 6 months of the business. Have a look at the table below and check you could reproduce this.
| January | February | March | April | May | June | |
|---|---|---|---|---|---|---|
| Revenue | ||||||
| Sales | -- | 950 | 950 | 950 | 950 | 950 |
| Expenses | ||||||
| Rent | 200 | 200 | 200 | 200 | 200 | 200 |
| Raw materials | 100 | 100 | 100 | 100 | 100 | 100 |
| Wages | 250 | 250 | 250 | 250 | 250 | 250 |
| Rates | 400 | 0 | 0 | 400 | 0 | 0 |
| Electricity | 0 | 0 | 55 | 0 | 0 | 55 |
| Travelling | 75 | 75 | 75 | 75 | 75 | 75 |
| Total expenses | 925 | 625 | 680 | 1025 | 625 | 680 |
| Net cash flow | -925 | 325 | 270 | -75 | 325 | 270 |
| Opening balance | 250 | -675 | -350 | -80 | -155 | 170 |
| Net cash flow | -925 | 325 | 270 | -75 | 325 | 270 |
| Closing balance | -675 | -350 | -80 | -155 | 170 | 440 |
We can see from this forecast that in the first few months of operation, the business is going to need some sort of short-term finance, but by May, they have a positive bank balance. Perhaps the most appropriate way to finance this would be through an overdraft arrangement, as they believe it will be short-term.
There is a business planning case study that you may like to have a go at when you have looked through this section.
