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Master your business cash flow

  • 5.5 min read

A cash flow budget is an estimate of all cash receipts and expenses expected to occur during a specific period. Cash flow examines money movement, not net income or profitability, but it’s an essential part of financial management.

What’s the difference between budgets and statements?

Cash flow budgets and cash flow statements are different. A budget is a projection of what’s going to happen. A statement shows what’s happened in the past. Here are a couple of scenarios to illustrate why you need a cash flow budget.

Scenario 1: You require a new piece of equipment to expand production. You know your cost of production, and you’re confident this purchase will enhance profitability and move your business ahead financially. But, will you have cash available when payments are due? And, what about other expenses that need to be paid before you start seeing income from your additional production? Is your current operating loan adequate?

Scenario 2: Your business could really use an experienced leader in Human Resources. You’re stretched thin; you and your employees need guidance. Can your business afford to grow in size? What will adding this salaried employee mean to your cash flow?

In both scenarios, a significant change in the business plan increases the need for proper cash flow analysis before making any final decisions. Cash flow planning is also needed for businesses that may not be making significant changes.

Benefits of cash flow planning/analysis

  • Know when cash flow will be tight so you can plan for the shortfall
  • Identify the best loan term and repayment schedule
  • Make marketing or operational decisions that are not under cash shortfall constraints
  • Allows for stress testing potential scenarios such as an increase in interest rates or a decrease in sales
  • Helps you decide to lease or buy a major piece of equipment

Understanding cashflow makes you a better manager

Different businesses face different challenges. Understanding your cashflow will help you better manage your day-to-day business and short/long term goals.

Understanding your cashflow will help you better manage your day-to-day business and short/long term goals.

Many businesses should calculate their cashflow monthly, while others can manage bi-monthly or quarterly. The frequency will be determined based on your business sales seasonality and volatility. A cash flow budget is straight forward. It records your projected cash inflow and outflow for a specific period, along with the resulting cash balance. Typically, you’ll want to be projecting your cash flows a year or more in advance.

Download our Cash Flow Planning Guide to learn about managing cash flow.

Cash flow vs. profitability

A business can have significant cash flow shortfalls throughout the year and be profitable. The ability to manage a healthy and positive cash flow is an indicator of profitability. Cash flow excludes non-cash elements like depreciation but includes cash-reducing items like principle payments. These subtle but powerful differences make cash flow analysis a powerful tool for business managers.

Review and update regularly

It’s helpful to compare your cash flow budget against your cash flow statement and note any changes. Update your cash flow budget as new information becomes available. It’s only as accurate as the assumptions used to prepare it. Cash flow items like loan repayments and utility bills are usually predictable. There may be slight variations, but you know how much will be paid and when.

The timing and amount of other cashflow elements can vary greatly per year. A large, unexpected equipment repair bill or additional expense can materialize at an inopportune time. Raw material prices for your products can rise due to supply shortages.

Opportunities don’t always have the best timing either, a piece of land or a building you’ve always wanted might become available, and you now require a down payment. Demand for your products could spike with a new contract, but do you have the workforce or resources to step up production?

Despite the unknowns and uncertainties, cash flow planning is the only way to anticipate shortfalls and take appropriate action in advance.

Be smart with operating loans

It’s common for businesses to use operating loans or lines of credit to bridge the expected gaps in cash flow. Sometimes loans or delayed payment options are available from vendors. These might be viable options if costs and interest payable is competitive. However, you don’t want options that cost more than necessary. A cash flow budget provides the most accurate estimate of your cash shortfall and what actions are most appropriate.

Again, cash flow analysis is not a measurement of profitability. However, if your operating loan balance has continued to increase or you’ve struggled to revolve it, while your overall business size isn’t growing, it could be a sign of profitability issues.

Operating loans should only be used to cover operating expenses (the costs needed to manufacture products). Purchasing capital assets with operating loan funds can cause financial trouble. The cash needed to run the business is tied up paying for an asset that will “pay for itself” over multiple operating cycles.

Therefore, capital assets should be financed longer-term. To manage this, some business managers develop a multiple-year plan to consider their equipment replacement requirements – typically for the next five years. Often referred to as a capital budget, this plan is flexible as situations change, but these projections can dovetail into your cash flow planning.

Marketing and purchasing considerations

Companies that manufacture and sell staple items (like bread, eggs, etc.) typically have regular and predictable sales. Those that manufacture and sell nonessential goods have more flexibility and may try to time their sales to coincide with better pricing opportunities or times of higher demand. Bottled, canned, frozen and low-spoilage food products are stored for many months or even years. Holding inventory can potentially increase your returns. Therefore, consider all the costs involved in food storage.

Purchasing raw materials (ingredients and packaging) often comes at a better price when you buy in bulk.  However, this can impact your cash flow as it requires a cash outlay that affects the company’s cash balance. How you manage your inventory will directly impact the cashflow of your business.

Knowing your days in inventory, accounts receivable days (the number of days that a customer invoice is outstanding before it is collected) and accounts payable days (the number of days that your company takes to pay suppliers) can influence your cash flow.  

Scenario planning using a cash flow budget allows you to plug in different payment terms and assess the impact of different situations so that you can see the impact to the money you have on hand.

As the old axiom states, cash is king. That’s why cash flow planning is such an integral part of any business financial planning. A cash flow statement records your history. A cash flow budget projects for the future. And here are some actions you can take now:

  • Develop a cash flow budget and update it regularly
  • Use your cash flow budget to help with business decisions
  • Talk to your financial lender if you have any questions