How To Create A Cash Flow Projection (And Why You Should)

How To Create A Cash Flow Projection (And Why You Should)

How To Create A Cash Flow Projection

How healthy is your business? Your company may be doing well today, but what about five months or a year from now? You may not have a crystal ball that can predict the future, but you can use a cash flow projection to estimate what your cash flow will be in the future.

If you’re not already creating cash flow projections, you should be. Let’s look at what a cash flow projection is and how to calculate it.

What Is Cash Flow Projection?

A small business cash flow projection is a prediction of how much cash will come into and out of your business over a specified period of time. Essentially, you’re using cash flow to predict the future performance of your business. Even a simple cash flow projection can help your business plan for the future and stay afloat during slow periods.

You can create a cash flow projection for 12 months or even a few years into the future, although the further out you go, the less accurate the projection will be. 

Cash flow is the lifeline of your business. Being able to estimate how much cash you will have in the future will help you determine whether:

  • It’s a good time to hire new staff
  • Whether you can expand your product line or open a new location
  • It’s okay to buy new equipment
  • If you should cut back on expenses or reduce your product lineup

Most businesses will struggle with cash flow at some point. But if you’re creating cash flow projections, you can help prevent these issues or reduce their impact to keep your business running smoothly.

How To Calculate Your Cash Flow Projection

To calculate a cash flow projection, you first need to understand your cash flow. Understanding your cash flow will not only help you create a projection, but it will also help you keep a pulse on the financial health of your business.

Here’s how to make a cash flow projection.

Estimate Your Sales

To create an accurate cash flow projection, you need to estimate your sales. Use your financial statements from the previous year to help estimate your sales and the amount of cash that will be coming into your business each month. 

When estimating your sales, consider any changes that may affect your cash flow. For example, if you’re launching a new product, you may expect an increase in sales and should adjust your sales forecasts accordingly.

If you’re a new business with no sales history, use industry research to help estimate your sales.

Estimate Payments from Customers 

If you have primarily cash sales or take payments from customers at the point of sale, then you don’t need to go through this step.

However, if you send invoices to customers or extend lines of credit, you’ll need to estimate when you’ll get paid based on your payment terms. You can do this by using the days sales outstanding, or DSO, formula.

Essentially, you divide your accounts receivable (monthly) by your total sales and then multiply that number by the total number of days in the month. This figure will be the average number of days it takes for your business to receive payments.

Calculate Your Expenses (Fixed and Variable)

The next step is to estimate your fixed and variable expenses. 

  • Fixed expenses are the same every month (rent, employee wages, insurance, etc.)
  • Variable expenses are different every month (utilities, raw materials, shipping, etc.)

Work with your accountant to go over your sales and estimate what these expenses may be. If you don’t have an accountant, you’ll need to do this manually by adding up your expenses in a spreadsheet.

Create Your Projection

Now that you have all of these figures on hand, you can create your projection.

  • Start with your last month’s cash balance and add your current month’s estimated receipts.
  • Subtract your projected expenses from this sum.
  • This figure is your projected cash flow for the month.

From here, you can calculate your projected cash flow for the next month and even 12 months.

Final Thoughts

Creating a cash flow projection is important, and something that every business should do. Follow the steps above to create your own and take control of the financial health of your business.