A Primer on Cash-Flow Projections

Regular cash flow projections can keep creditors at bay--and go a long way toward ensuring the good health of your business

You've probably heard the phrase "cash is king," but do you really know what it means, beyond the concept of making more of it than you spend? Many new business owners--and even some seasoned entrepreneurs--don't.

Lenders and investors? They understand cash. They don't care about your plan to change the world unless it includes some down-to-earth cash flow projections.

The problem is confusing profits with cash flow, which are completely different things. Profit is income less expenses, but not all income represents cash in.

For example, if you made a $1,000 sale, but the customer hasn't yet paid you, that's still income. Likewise, if you bought supplies that you won't pay for until the vendor bills you, that's an expense, even though it has yet to impact the cash you have in the bank. So an income statement doesn't tell you anything about your cash flow.

Even a profitable business can run out of cash and have to close up shop. It's as common to American business enterprise as entrepreneurship itself.

Small-business owners pay rent, usually in advance. They often let their best customers pay on account, so they're not collecting the cash until 30, 60 or 90 days after the sale. And there's the unexpected, like product loss and theft. All of this reduces cash flow, but not costs.

Cash flow projections can't predict the unpredictable, but they can alert you to the more foreseeable hazards. While you might want to leave the actual number crunching to a professional, you still need to understand the principles.

Cash should flow in faster than out. Cash flows into a business from:

  • Cash sales.
  • The collection of accounts receivable (sales you made, but weren't paid for right away).
  • Cash you put into the business.

Cash flows out for:

  • The purchase of goods and services.
  • Accounts payable (payments due for goods and services purchased).
  • Wages, benefits and payroll taxes.
  • Equipment purchases.
  • Deposits (such as prepaid rent).
  • Loan payments (principal and interest).

Cash flow projections should be done at least monthly for the next year, and quarterly thereafter.
If you're growing fast or you're teetering between solvency and insolvency, weekly or even daily projections are a must.

Cash projections are only as good as the underlying assumptions.
While you don't have a crystal ball to predict revenue, you should be able to nail down the cash-out side of the equation. Take care to accurately project when irregular expenses, such as insurance premiums and membership fees, will actually come due.

Estimate your income based on real market research.
Talk to others who have started similar businesses about their experience, especially when they were starting out. Whatever you do, don't base your income on some arbitrary percent of the market. Consider, for example, that even with all its years in business, its clever ads and its charismatic leader, Apple accounts for only about 5 percent of the global computer market.

Once you have a reasonable guesstimate of income, see what your cash flow looks like if sales are 10, 15 or 20 percent higher or lower than projected.
Do the same for any fuzzy expense estimates. And don't forget to project what happens to your cash flow if customers don't pay on time.

Pace of growth is all-important, too.
Don't assume it's going to follow a straight line, nor that the line is going to consistently move in the same direction. 

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