How to make a cashflow forecast

Maintaining a healthy cashflow is essential in order for small business owners to ensure they can plan ahead effectively and have money available in case of an emergency. FreeAgent automatically builds a near-term cashflow forecast for your business based on the data in your account.

If you’re interested in creating a longer-term, strategic cashflow for your business, this guide provides a detailed process for you to follow.

What is a cashflow forecast?

A cashflow forecast is a plan that shows how much money you expect your business to receive and pay out over a set period of time. It can help you plan how much you expect to make in sales and spend in costs. It can also help you understand when money will enter and leave your bank account.

To build an effective cashflow forecast, we recommend that you create three component forecasts for your sales, profit and loss and cashflow. You’ll use your mini sales forecast to predict your future sales performance and your mini profit and loss forecast to determine your business's income less its expenses. You’ll then use your mini cashflow forecast to map out the money coming into, and going out of, your business.

Armed with these component forecasts, you’ll be better placed to make important decisions about your business. Here are some questions that a cashflow forecast can help you answer:

  • Can you sell a new product or offer a new service?
  • Can you afford to recruit a new member of staff?
  • Should you outsource some of your day-to-day tasks?
  • Can you afford to rent an office or workshop space if you’re looking to expand?
  • Can you sell your product or service in a different country?
  • Are you at risk of running low on money?
  • Should you borrow some money?
  • When can you consider taking more money out of your business?

Before you start

We recommend that you make your cashflow forecast as comprehensive as possible, so remember to include all of your sales, costs and cash transactions. However, your forecast doesn’t have to be difficult to compile or penny-accurate, so consider using round numbers.

It’s up to you how far in advance you forecast but bear in mind that the further you try to look ahead, the less likely it is that your cashflow forecast will be realistic. A good rule of thumb is to forecast one year ahead.

We recommend that you update the figures in your forecast if your original plan doesn’t come to pass, for example if a new product sells better than you expected.

Step 1: create a mini sales forecast

We recommend that you create your mini sales forecast first so you can plan how much you expect to sell in the future.

Take a look at Sheet D in our handy cashflow forecast template. You’ll see that we’ve set up the template with a column for each month and a row for each product or service that you sell. We’ve also included a total column and total row. The total row is particularly important because it’ll feed across to your mini profit and loss forecast.

If you’re not sure where to start when predicting your future sales figures, here are a few pointers:

  • Think about what your objectives are, such as launching a new product or expanding into a new market. If you’re aiming to make more sales in a particular area then consider building this into your mini sales forecast.
  • Can you see any trends in your previous year’s sales figures, such as seasonal variations?
  • Are you hoping to win any new contracts and how likely is it that you’ll be awarded those contracts? Will working on new contracts take time away from other work?
  • If your business is registered for VAT, remember to record your sales exclusive of this tax.

Example of a mini sales forecast

You can follow along in Sheet A of the cashflow template.

Steve is an illustrator who’s looking to create his cashflow forecast. He’s looking at his expected sales for the year ahead.

Steve works closely with an author, Rob, who plans to write a new book early next year. Steve expects to provide illustrations for this new book.

He also expects to win a contract to draw an online comic strip series.

Steve carries out ad-hoc work illustrating greetings cards and would like to expand this side of his business. This work was particularly lucrative in the run-up to Christmas.

Steve plans his sales for next year. He enters his three sales channels - Rob’s new book, the comic strip and the greetings cards - on different rows of his spreadsheet. He records when he expects to do the work, not when he expects to be paid for his work. This is important because Steve will need to draw up his mini profit and loss forecast on the basis of when he earns his money and when he incurs his costs. Steve is registered for VAT, so he records his sales exclusive of this tax.

He records his sales in round numbers, because this is a forecast rather than an exact prediction.

Steve adds his sales revenue, which is how much he expects to earn from his sales, to the spreadsheet. He can base this on how many units of product (i.e. the number of illustrations) he expects to sell - and then multiplying this figure by the expected price for each unit. Alternatively, he can think in terms of revenue only (e.g. a total fee for Rob’s book rather than a fee per illustration).

Steve is confident that he’ll have enough time to carry out all this work even during his busiest times.

Step 2: create a mini profit and loss forecast

Now that you’ve predicted your sales, it’s time to create your mini profit and loss forecast. This mini forecast combines your business’s income and its day-to-day running costs, giving you a view of your projected profit in the future.

Take a look at Sheet E of the cashflow template. You’ll see that this is already set up with a column for each month. You can use the first row of this to record your total sales, which should be pulled automatically from your mini sales forecast in Sheet D.

Here are some pointers for creating your mini profit and loss forecast:

  • While you’ll prepare your mini cashflow forecast on the basis of payment dates, it’s better to prepare your mini profit and loss forecast on the basis of when you expect to incur costs.
  • If you sell goods then you’re likely to have costs of sales (e.g. for raw materials). You can adjust your figures to allow for stock you held at the start and end of each month and then add a row for gross profit.
  • Remember to include any day-to-day running costs other than cost of sales, such as your overheads. You can then work out your business’s net profit.
  • Keep in mind that you should only include your business’s day-to-day running costs in your mini profit and loss forecast. You shouldn’t include one-off costs, such as buying a new computer.
  • Don’t forget to include costs for stationery and consumables, such as packaging, printed letterheads, business cards, sticky notes, computer cables and batteries. If you’re not sure how much these items will cost, you can take a look at past receipts.
  • Include any monthly or annual subscription costs, such as software packages and web hosting, as well as any fees for accountants, solicitors or freelance contractors.
  • Don’t forget to include any costs for landlines, mobile phones or any call answering services you may use.
  • If you’re an employer, you can add your employees’ wages to the ‘staff salaries’ row. Don’t forget to add in any taxes that you pay in addition to employees’ wages, such as employer’s National Insurance contributions.
  • If you’re registered for VAT then include your costs exclusive of this, unless you’re using a scheme where you report your costs inclusive of VAT, such as the VAT Flat Rate Scheme.
  • Don’t forget to include any non-cash costs, such as depreciation of your assets, miles travelled in your own car and business use of your home.

Example of a mini profit and loss forecast

You can follow along in Sheet B of the cashflow template.

Steve’s costs of sales will be his pens, sketch pads and drawing paper. The more illustrations Steve produces, the more of these items he’ll need. In his quieter months, however, he won’t need as many. He puts his estimated costs into his mini profit and loss forecast.

Steve sends his illustrations to Rob electronically, so he won’t have costs of physical delivery for that project. He expects to use the same delivery method for his new comic strip contract. However, Steve will need to post his greetings cards, so he’ll need to include the costs of packaging and delivery for them. These costs will depend on how many cards Steve sells, so he refers back to his mini sales forecast to work this out.

Steve uses his website to display some of his work in order to attract new customers. The website also has a customer portal where Steve can share samples and pieces of completed work securely with his customers. He includes the cost of hosting the website each month in his mini profit and loss forecast.

He adds up the costs of his subscriptions for online accounting software, project management software and to-do lists and includes these costs in his mini profit and loss forecast.

Steve’s accountant invoices him in March each year, so Steve includes this cost based on the accountant’s invoice date.

Steve includes the costs of his landline, mobile phone and broadband internet in the ‘telephone and internet’ area of his mini profit and loss forecast.

He enters an allowance for office consumables, such as batteries for his mouse and bulbs for his desk lamp.

Steve includes the depreciation of his business’s assets, such as office furniture and computer equipment.

Steve’s accountant advises him on how much to include as allowances for business use of his home and mileage travelled in his own car.

Once Steve has mapped all his costs, he adds them up and then subtracts his costs from his sales in order to work out his business’s net profit.

Steve can clearly see his business’s seasonal peaks and troughs. He makes a lower profit in the early part of the year and a higher profit in the later part of the year when his sales are greater.

Steve is not happy with the amount of sales revenue that he gets to keep, especially when he considers that he has to pay tax on his profit too. He considers whether he should put his prices up.

Step 3: create your mini cashflow forecast

Now that you’ve created your mini sales and profit and loss forecasts, you can use them to map your mini cashflow forecast.

In Sheet F of the cashflow template we’ve created a column for each month and a row for each type of money coming in or going out. Use your mini sales forecast to bring across your sales income and then copy across the costs from your mini profit and loss forecast.

Here are some pointers for creating your mini cashflow forecast:

Money in

While you report income when it’s invoiced on your mini sales forecast, it’s best to list income when you expect it to be paid on your mini cashflow forecast.

If your business is registered for VAT then you should include your sales income inclusive of this tax. Be aware that this means that your sales income on your mini cashflow forecast will be different from your sales income on your mini sales forecast, which includes income exclusive of VAT.

Think about any income other than sales (e.g. a loan) that you might be able to expect. You can add this income to your mini cashflow forecast, using a separate row for each type of income.

You can use the ‘total money in’ row of the template to total up all the money that you’re expecting to come in.

Money out

You should list your costs when you expect to pay for them, rather than when you expect to incur them.

If any costs include VAT and you’re registered for this tax, remember to record these costs inclusive of VAT. This is different to the mini profit and loss forecast, where you included costs exclusive of VAT.

Remember to leave out non-cash costs like mileage and depreciation.

If you’re a sole trader, include any money that you withdraw from the business for your own personal use.

Add up all your money spent each month and subtract that figure from the money coming in each month. You can then see your net cash inflow (how much more you’ve earned than spent each month) or your net cash outflow (how much more you’ve spent than earned each month). We’ve done this automatically for you in the ‘net cash inflow/outflow’ row of the cashflow template.

Add your net cash inflow or outflow to your bank balance as at the end of the previous month to see how much you expect to have in the bank at the end of the current month. This can help you make decisions for your business such as whether you want to raise your prices or recruit a new team member.

Example of a mini cashflow forecast

You can follow along in Sheet C of the cashflow template.

Money in

Steve uses his mini sales forecast to complete the ‘money in’ section of his mini cashflow forecast.

Steve is registered for VAT, and pays the standard rate of 20%, so he includes the VAT that his customers will pay him.

Rob pays Steve straight away, so Steve includes those sales in his mini cashflow forecast in the same months that they appear in his mini sales forecast.

The payment terms for Steve’s potential comic strip illustration contract are one month in arrears (when a payment is made after the product or service has been provided). Steve will include those sales in his mini cashflow forecast a month later than he’s put them into his mini sales forecast.

The greetings card company also pays Steve one month in arrears, so he’ll include those sales in his mini cashflow forecast a month after they appear in his mini sales forecast.

Steve includes a row for a loan in case he needs to borrow money from the bank.

With all of his money added, Steve adds a row to total all of these amounts.

Money out

Steve looks at his mini profit and loss forecast to plan when he expects money to leave his bank account. He pays most of his costs in the same month as he incurs them, so he includes them in his mini cashflow forecast in the same month as they appear in his mini profit and loss forecast. He remembers to enter his costs inclusive of VAT at the appropriate rate.

Steve pays his accountant one month in arrears. He puts that cost into his mini cashflow forecast a month after it appears in his mini profit and loss forecast, inclusive of VAT because his accountant charges him VAT.

Depreciation, business use of his home and mileage in Steve’s own car are all non-cash costs, so he leaves these out of his mini cashflow forecast.

Once Steve has brought in all the appropriate day-to-day running costs, he thinks about other cash payments his business might make.

He wants to buy a new computer at the end of the year, so he includes that.

He’ll pay VAT every quarter based on the amount that he has invoiced his customers minus the amount that he has incurred on costs. He needs to include this amount in each month he expects to pay his quarterly VAT bill.

As Steve is a sole trader, he records the amount of money he takes out of the business account every month. If his business was a limited company, then he would include his salary under staff salaries instead.

Steve adds up his outgoings and then subtracts these from his monthly income to calculate his net cash inflow or outflow.

Steve’s cashflow and cash position

Steve can see that his business has a net cash outflow in several months’ time, which means that he’ll be spending more than he’s earning.

He enters his business’s bank account balance as it stood at the start of January and looks to see how much he expects to have in the bank at the end of each month.

Steve is expecting to be overdrawn, so he’ll need to consider putting an overdraft facility in place and perhaps arranging for a formal loan with the bank. He considers whether he should raise his prices or find additional ways to make more sales, perhaps through an e-commerce site of his own.

If Steve hadn’t created his cashflow forecast, he wouldn’t have known that he’s at risk of running out of cash and becoming overdrawn.

By taking the time to create your cashflow forecast now and adapting it as the year unfolds, you’re giving your business the best possible chance of success in the year ahead.

Disclaimer: The content included in this guide is based on our understanding of tax law at the time of publication. It may be subject to change and may not be applicable to your circumstances, so should not be relied upon. You are responsible for complying with tax law and should seek independent advice if you require further information about the content included in this guide. If you don't have an accountant, take a look at our directory to find a FreeAgent Practice Partner based in your local area.

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