Cash Flow Projection – The Complete Guide

Introduction

Cash flow is the lifeblood of any business. Yet, many companies constantly face the looming threat of cash shortages, often leading to their downfall. Despite its paramount importance, cash flow management can be overwhelming, leaving businesses uncertain about their financial stability.

But fear not, there’s a straightforward solution to this common problem – cash flow projection. By mastering the art of cash flow projection, you can gain better control over your finances and steer your business away from potential financial crises. Cash flow projections offer a proactive approach to managing cash flow, enabling you to anticipate challenges and make informed decisions to safeguard the future of your business.

If you’re unsure how to accurately perform cash flow projections or if you’re new to the concept altogether, this article explains everything you need to know, provides you with a step-by-step guide to preparing cash flow projections and highlights the key role automation plays in enhancing the effectiveness of these projections. 

What Is Cash Flow Projection?

Cash flow projection is a financial forecast that estimates the future inflows and outflows of cash for a specified period, typically using a cash flow projection template. It helps businesses anticipate liquidity needs, plan investments, and ensure financial stability.

Think of cash flow projection as a financial crystal ball that allows you to peek into the future of your business’s cash movements. It involves mapping out the expected cash inflows (receivables) from sales, investments, and financing activities and the anticipated cash outflows (payables) for expenses, investments, and debt repayments.

It provides invaluable foresight into your business’s anticipated cash position, helping you plan for potential shortfalls, identify surplus funds, and make informed financial decisions.

Why Are Cash Flow Projections Important for Your Business?

Managing cash flow is a critical aspect of running a successful business. It can be the determining factor between flourishing and filing for Chapter 11  bankruptcy.

In fact, studies reveal that 30% of business failures stem from running out of money. To avoid such a fate, by understanding and predicting the inflow and outflow of cash, businesses can make informed decisions, plan effectively, and steer clear of potential financial disasters.

Calculating projected cash flow is a crucial process for businesses to anticipate their future financial health and make informed decisions. This process involves forecasting expected cash inflows and outflows over a specific period using historical data, sales forecasts, expense projections, and other relevant information. Regularly updating and reviewing projected cash flow helps businesses identify potential cash shortages or surpluses, allowing for proactive cash management strategies and financial planning.

Cash Flow Projection vs. Cash Flow Forecast

Having control over your cash flow is the key to a successful business. By understanding the differences between cash flow forecasts and projections, business owners can use these tools more effectively to manage their finances and plan for the future. 

Aspect	Cash Flow Projection	Cash Flow Forecasting
Definition	An estimation of future cash inflows and outflows based on historical data, assumptions, and trends.	A process of forecasting future cash movements based on current financial data and market conditions.
Purpose	Helps in planning and budgeting for future financial needs and obligations.	Aids in short-term decision-making and managing cash flow fluctuations.
Time Horizon	Typically covers a longer period, such as months or years.	Focuses on shorter time frames, often weekly or monthly.
Frequency of Updates	Updated less frequently, usually on an annual or quarterly basis.	Requires frequent updates to reflect changing business conditions and market dynamics.
Accuracy	Provides a more static view of cash flow with less emphasis on real-time adjustments.	Offers a more dynamic and responsive view of cash flow, allowing for timely adjustments and corrections.
Tools Used	Utilizes historical financial data, trend analysis, and financial modeling techniques.	Relies on real-time data, financial software, and predictive analytics tools.

Step-by-Step Guide to Creating a Cash Flow Projection

An effective cash flow projection enables better management of business finances. Here is a step-by-step process to create cash flow projections:

Step 1: Choose the type of projection model

• Determine the appropriate projection model based on your business needs and planning horizon.

Consider the following factors when choosing a projection model:

• Short-term projections: Covering 3-12 months, these projections are suitable for immediate planning and monitoring.
• Long-term projections: Extending beyond 12 months, these projections provide insights for strategic decision-making and future planning.

• Combination approach: Use a combination of short-term and long-term projections to address both immediate and long-range goals.

Step 2: Gather historical data and sales information

• Collect relevant historical financial data, including cash inflows and outflows from previous periods.

• Analyze sales information, considering seasonality, customer payment patterns, and market trends.

Pro Tip: Finance teams often utilize accounting software to ingest a range of historical and transactional data. 

Step 3: Project cash inflows

• Estimate cash inflows based on sales forecasts, considering factors such as payment terms and collection periods.

• Utilize historical data and market insights to refine your projections.

Step 4: Estimate cash outflows

• Identify and categorize various cash outflow components, such as operating expenses, loan repayments, supplier payments, and taxes.

• Use historical data and expense forecasts to estimate the timing and amount of cash outflows.

Pro Tip: By referencing the cash flow statement, you can identify the sources of cash inflows and outflows. 

Step 5: Calculate opening and closing balances

• Calculate the opening balance for each period, which represents the cash available at the beginning of the period
  • Opening Balance = Previous Closing Balance

• Calculate the closing balance by considering the opening balance, cash inflows, and cash outflows for the period.
  • Closing Balance = Opening Balance + Cash Inflows – Cash Outflows

Step 6: Account for timing and payment terms

• Consider the timing of cash inflows and outflows to create a realistic cash flow timeline.
• Account for payment terms with customers and suppliers to align projections with cash movements.

Step 7: Calculate net cash flow

• Calculate the net cash flow for each period, which represents the difference between cash inflows and cash outflows.
  • Net Cash Flow = Cash Inflows – Cash Outflows

Pro Tip: Calculating the net cash flow for each period is vital for your business, as it gives you a clear picture of your future cash position. Think of it as your future cash flow calculation.

Step 8: Build contingency plans

• Incorporate contingency plans to mitigate unexpected events impacting cash flow, such as economic downturns or late payments.
• Create buffers in your projections to handle unforeseen circumstances.

Step 9: Implement rolling forecasts

• Embrace a rolling forecast approach, where you regularly update and refine your cash flow projections based on actual performance and changing circumstances.
• Rolling forecasts provide a dynamic view of your cash flow, allowing for adjustments and increased accuracy.

Cash Flow Projection Example

Let’s take a sneak peek into the cash flow projection of Pizza Planet, a hypothetical firm. In March, they began with an opening balance of $50,000. This snapshot will show us how their finances evolved during the next 4 months.

Here are 5 key takeaways from the above cash flow projection analysis for Pizza Planet:

• Upsurge in Cash Flow from Receivables Collection (April):
  • Successful efforts at collecting outstanding customer payments result in a significant increase in cash flow.
  • Indicates effective accounts receivable management and timely collection processes.

• Buffer Cash Addition (May and June):
  • The company proactively adds buffer cash to prepare for potential financial disruptions.
  • Demonstrates a prudent approach to financial planning and readiness for unexpected challenges.

• Spike in Cash Outflow from Loan Payment (May):
  • A noticeable cash outflow increase is attributed to the repayment of borrowed funds.
  • It suggests a commitment to honoring loan obligations and maintaining a healthy financial standing.

• Manageable Negative Net Cash Flow (May and June):
  • A negative net cash flow during these months is offset by a positive net cash flow in other months.
  • Indicates the ability to handle short-term cash fluctuations and maintain overall financial stability.

• Consistent Closing Balance Growth:
  • The closing balance exhibits a consistent and upward trend over the projection period.
  • Reflects effective cash flow management, where inflows cover outflows and support the growth of the closing cash position.

Overall, the cash flow projection portrays a healthy cash flow for Pizza Planet, highlighting their ability to collect receivables, plan for contingencies, manage loan obligations, have resilience in managing short-term fluctuations, and steadily improve their cash position over time.

How to Calculate Projected Cash Flow?

To calculate projected cash flow, start by estimating incoming cash from sources like sales, investments, and financing. Then, deduct anticipated cash outflows such as operating expenses, loan payments, taxes, and capital expenditures. The resulting net cash flow clearly shows how much cash the business expects to generate or use within the forecasted period. 

Calculating projected cash flow is a crucial process for businesses to anticipate their future financial health and make informed decisions. This process involves forecasting expected cash inflows and outflows over a specific period using historical data, sales forecasts, expense projections, and other relevant information. Regularly updating and reviewing projected cash flow helps businesses identify potential cash shortages or surpluses, allowing for proactive cash management strategies and financial planning. 

Download our cash flow calculator to effortlessly track your company’s operating cash flow,

net cash flow (in/out), projected cash flow, and closing balance.

6 Common Pitfalls to Avoid When Creating Cash Flow Projections

At HighRadius, we recently turned our research engine toward cash flow forecasting to shed light on the sources of projection failures. One of our significant findings was that most companies opt for unrealistic projection models that don’t mirror the actual workings of their finance department.

6 Common Pitfalls to Watch Out For
Unrealistic Assumptions	Overestimating Collections and Payables	Inaccurate Sales Timing
Lack of Scenario Planning	Overlooking Seasonal Cash Flow Patterns	Ignoring Contingencies and Unexpected Events

Cash flow projections are only as strong as the numbers behind them. No one can be completely certain months in advance if they will encounter any unexpected events. Defining a realistic cash flow projection for your company is crucial to achieving more accurate results. Don’t let optimism cloud your key assumptions. Stick to the most likely numbers for your projections.

A 5% variance is acceptable, but exceeding this threshold warrants a closer look at your key assumptions. Identify any logical flaws that may compromise accuracy. Take note of these pitfall insights we’ve gathered from finance executives who have shared their experiences:

• Sales Estimates:
  • Avoid overly generous sales forecasts that can undermine projection accuracy.
  • Maintain a realistic approach to sales projections to ensure reliable cash flow projections.

• Accounts Receivable:
  • Reflect the payment behavior of your customers accurately in projections, especially if they tend to pay on the last possible day despite a 30-day payment schedule.
  • Adjust the projection cycle to align with the actual payment patterns.

• Accounts Payable:
  • Factor in annual and quarterly bills on the payables side of your projections.
  • Consider potential changes in tax rates if your business is expected to reach a new tax level.

• Cyclical Trends:
  • Account for seasonal fluctuations and cyclical trends specific to your industry.
  • Analyze historical data to identify patterns and adjust projections accordingly to reflect these variations.

• Contingencies and Unexpected Events:
  • Incorporate contingencies in your projections to prepare for unforeseen circumstances such as economic downturns, natural disasters, or changes in market conditions.
  • Build buffers to mitigate the impact of unexpected events on your cash flow.

• Scenario Planning:
  • Failing to create multiple scenarios can leave you unprepared for different business outcomes.
  • Develop projections for best-case, worst-case, and moderate scenarios to assess the impact of various circumstances on cash flow.

By addressing these pitfalls and adopting these best practices shared by finance executives, you can create more reliable and effective cash flow projections for your business. Stay proactive and keep your projections aligned with the realities of your industry and market conditions.

How Automation Helps in Projecting Cash Flow?

Building a cash flow projection chart is just the first step; the real power lies in the insights it can provide. Cash flow projection is crucial, but let’s face it – the traditional process is resource-consuming and hampers productivity. 

However, there’s a solution: a cash flow projection chart automation tool. 

Professionals in treasury understand this need for automation, but it requires an investment of time and money. Building a compelling business case is straightforward, especially for companies prioritizing cash reporting, forecasting, and leveraging the output for day-to-day cash management and investment planning.

Consider the following 3 business use cases shared by finance executives, highlighting the benefits of automated cash flow projections that far outweigh the initial investment:

• Scalability and adaptability: Forecasting cash flow in spreadsheets is manageable in the early stages, but as your business grows, it becomes challenging and resource-intensive. Manual cash flow management struggles to keep up with the increasing transactions and customer portfolios. Many businesses rely on one-off solutions that only temporarily patch up cash flow processes without considering the implications for the future. Your business needs an automation tool that can effortlessly scale with your business, accommodating evolving needs. Moreover, by opting for customization options, you can tailor the cash flow projections to your specific business requirements and adapt to changing market dynamics.

• Time savings: Consider a simple example of the time and effort involved in compiling a 13-week cash flow projection for stakeholders every week. The process typically includes:
  • Capture cash flow data from banking and accounting platforms and classify transactions.
  • Create short-term forecasts using payables and receivables data.
  • Model budgets and other business plans for medium-term forecasts.
  • Collect data from various business units, subsidiaries, and inventory levels.
  • Consolidate the data into a single cash flow projection.
  • Perform variance and sensitivity analysis.
  • Compile reporting with commentary.

This process alone can consume many hours each week. Let’s assume it takes six hours for a single resource and another six hours for other contributors, totaling 12 hours per week or 624 hours per year.  By implementing a cash flow projection automation tool, you can say goodbye to tedious manual tasks such as logging in, downloading data, updating spreadsheets, and compiling reports. Automating these processes saves your team countless hours, allowing them to focus on strategic initiatives and high-value activities.

Imagine the added time spent on data conversations, information requests, and follow-ups. Cash reporting can quickly become an ongoing, never-ending process.

By implementing a cash flow projection automation tool, you can say goodbye to tedious manual tasks such as logging in, downloading data, manipulating spreadsheets, and compiling reports. Automating these processes saves your team countless hours, allowing them to focus on strategic initiatives and high-value activities.

• Accuracy and efficiency: When it comes to cash flow monitoring and projection, accuracy is paramount for effective risk management. However, manual data handling introduces the risk of human error, which can have significant financial implications for businesses. These challenges are:
  • Inaccurate financial decision-making
  • Inaccurate financial decision-making
  • Cash flow uncertainty
  • Increased financial risks
  • Impaired stakeholder confidence
  • Wasted resources and time
  • Compliance and reporting challenges
  • Inconsistent data processing

Automating cash flow projections mitigates these risks by ensuring accurate and reliable results. An automation tool’s consistent data processing, real-time integration, error detection, and data validation capabilities instill greater accuracy, reliability, and confidence in the projected cash flow figures. For example, Harris, a leading national mechanical contractor, transformed their cash flow management by adopting an automation tool. They achieved up to 85% accuracy across forecasts for 900+ projects and gained multiple 360-view projection horizons, from 1 day to 6 months, updated daily. This improvement in accuracy allowed the team to focus on higher-value tasks, driving better outcomes.

Cash Flow Projections with HighRadius

Managing cash flow projections today requires a host of tools to track data, usage, and historic revenue trends as seen above. Teams rely on spreadsheets, data warehouses, business intelligence tools, and analysts to compile and report the data.

Discover the power of HighRadius cash flow forecasting software, designed to precisely capture and analyze diverse scenarios, seamlessly integrating them into your cash forecasts. By visualizing the impact of these scenarios on your cash flows in real time, you gain a comprehensive understanding of potential outcomes and can proactively respond to changing circumstances.

Here’s how AI takes variance analysis to the next level and helps you generate accurate cash flow forecasts with low variance. It automates the collection of data on past cash flows, including bank statements, accounts receivable, accounts payable, and other financial transactions, and integrates with most financial systems. This data is analyzed to detect patterns and trends that can be used to anticipate future cash flows. Based on this historical analysis and regression analysis of complex cash flow categories such as A/R and A/P, AI selects an algorithm that can provide an accurate cash forecast.

When your forecast is off, you can miss opportunities to invest in growth or undermine your credibility and investor confidence. An accurate forecast means predictable growth and increased shareholder confidence. 

FAQs

1. How do you prepare a projected cash flow statement?

Steps to prepare a projected cash flow statement:

1. Analyze historical cash flows.
2. Estimate future sales and collections from customers.
3. Forecast expected payments to suppliers and vendors.
4. Consider changes in operating, investing, and financing activities.
5. Compile all these estimates into a projected cash flow statement for the desired period.

2. What is a projected cash flow budget?

A projected cash flow budget is a financial statement that estimates the amount of cash your business is expected to receive and pay out over a specific time period. This information can help your business have enough cash flow to maintain its regular operations during the given period.

3. What is a 3-year projected cash flow statement?

A 3-year projected cash flow statement forecasts cash inflows and outflows for the next three years. It helps businesses assess their expected cash position and plan for future financial needs and opportunities.

4. What are projected cash flow and fund flow statements?

A projected cash flow statement forecasts cash inflows and outflows over a period, aiding in budgeting and planning. The fund flow statement tracks the movement of funds between sources and uses, analyzing the financial position. Both provide insights into a company’s liquidity and financial health.

5. What are the four key uses of a cash flow forecast?

1. Evaluate cash availability for operational expenses and investments.
2. Identify potential cash flow gaps or surpluses.
3. Support financial planning, budgeting, and decision-making.
4. Assist in securing financing or negotiating favorable terms with stakeholders.

6. What is the cash flow projection ratio?

The term cash flow projection ratio is not a commonly used financial ratio. However, various ratios like operating cash flow ratio, cash flow margin, and cash flow coverage ratio are used to assess a company’s cash flow generation and management capabilities.

7. What is the formula for projected cash flow?

The projected cash flow formula is Projected Cash Flow = Projected Cash Inflows – Projected Cash Outflows. It calculates the anticipated net cash flow by subtracting projected expenses from projected revenues, considering all sources of inflows and outflows.

8. What are the advantages of cash flow projection?

Cash flow projection helps businesses:

1. Anticipate future financial needs
2. Manage cash shortages effectively
3. Make informed decisions
4. Ensure stability and growth
5. Provide a roadmap for financial planning
6. Stay proactive in managing finances