Unfortunately, the great majority of companies use the same format for internal cash flow forecasting as they do for their annual financial statements. This format is at best a poor substitute for a useful management tool and at worst a source of confusion.

A truly useful management tool called the “direct method” uses the same intuitive logic that any of us would use in compiling a cash budget for our household. It itemizes cash receipts and cash expenditures rather than showing (obtuse) changes in balance sheet balances.

Our cash flow model can be set up in a day.  It applies very simple, easily understood formulas and produces not only a cash flow forecast but a forecasted balance sheet as well.  This is especially crucial to clients with an asset-based bank line of credit, for example, because the model forecasts month-end accounts receivable, inventory, and available loan balances.

Here’s how the basic concept works.  We begin with monthly Sales [Revenue] and estimate the timing of receipts from collecting accounts receivable.  Similarly, we start with the company’s standard expenses (including cost of goods sold and general expenses) and estimate the timing of actual payments against them.  This gives management direct insight into each piece of the organization’s cash flow and shows the result of improving any of them.

Here’s a simple (somewhat exaggerated) forecasting example.  All cash receipts and disbursements lines would come from simple, easily understood, transparent tables.

NPA Consultants are specialists in Financial Reporting, Policies, Procedures, and Internal Controls.  We are happy to answer any questions.  Contact us at info@NPAccountants.org or 617 694 4600.