How to Forecast Cash Flow in Nigeria

Have you ever taken a look at your business account to make sure that the payments you’re expecting match up with your upcoming expenses? Or maybe you’ve made a big investment and planned to spread the cost over a few months to keep your cash flow steady?

If that’s the case, you’re already practicing cash flow forecasting.

Cash flow forecasting is a tool businesses use to predict their income and expenses over a set period. It helps owners stay on top of payments, keep track of spending, and plan for future growth.

What is a cash flow forecast?

A cash flow forecast is the process of predicting how much cash will come in and go out of your business over a specific period.

For example, let’s say an e-commerce business is planning a 12-month cash flow forecast. If the business expects to bring in $80,000 from online sales and spend $30,000 on operational costs over the next year, the forecast would show a net cash flow (or net income) of $50,000 for that time.

Direct vs. Indirect Cash Flow Forecasting

There are two main methods for cash flow forecasting: the direct method and the indirect method.

• Direct Cash Flow Forecasting: The direct method focuses on known income and expenses. It’s most useful for short-term forecasting. For example, a business might use this method at the start of a month to ensure it has enough working capital to cover bills at the end of the month.
• Indirect Cash Flow Forecasting: This method is used for long-term predictions and involves using projected balance sheets (also called pro forma balance sheets) and projected income statements. It accounts for factors like depreciation on buildings and equipment, which affect profitability but don’t directly impact cash flow.

How to forecast cash flow

Cash flow forecasting follows a repeatable process.

1. Prepare your cash flow statement
2. Estimate upcoming sales
3. Predict business expenses
4. Use the cash flow forecast formula

1. Prepare your cash flow statement:

Start by picking a timeframe for your cash flow forecast. It can be short-term, like 30 days, or longer, such as a quarter or a year.

Then, select a forecasting method based on your timeframe. For short periods, use the direct method by looking at your known income and expenses. For longer periods, use the indirect method to project future cash flow.

Next, calculate your estimated cash inflows, outflows, and starting balance. Add up expected gains like sales revenue and investment income for inflows. Then, sum up expenses like loan payments and payroll for outflows. Finally, note the starting cash balance in your accounts.

Using a cash flow projection template can simplify the process as it shows you where to plug your numbers, so you can understand how cash moves through your business.

2. Estimate upcoming sales:

Use past data from your financial and monthly income statements to predict cash inflows each month. If you’re a new business without a sales history, develop a sales forecast based on industry research, projecting sales for each month, not just for the year.

Then, list out how much you expect to earn per month by income type and other sources of cash, like asset sales, government grants, tax refunds, and licensing fees.‍ Add up the totals in each column to get your net projected inflows.

3. Predict business expenses:
Next, estimate your fixed, variable, and one-off expenses. Fixed expenses don’t change. These include:

• Payroll
• Rent
• Business Insurance

Variable expenses often fluctuate with your sales. These include:

• Raw materials
• Commissions
• Shipping costs

Go through your sales records to estimate expenses for each month of the next year. List out each type of expenditure or expense in the column you listed income types, then add up the expenses in each column to get your net projected outflows.

4. Applying the Cash Flow Forecast Formula:

Once you’ve figured out your expected income, expenses, and starting cash balance, you’re all set to create your cash flow forecast.

Start by calculating your net cash flow. Simply subtract your expenses (outflows) from your income (inflows). The formula looks like this:

                Inflows - Outflows = Net Cash Flow

Understanding Cash Flow Trends

Positive cash flow means your business is making a profit during the forecasted period. It shows that you’re bringing in more cash than you’re spending, which opens up opportunities to reinvest in growth, pay off debts, or save for future expenses.

On the other hand, negative cash flow indicates a loss. While short-term negative cash flow can be managed with proper planning, if it continues, it signals deeper issues. In such cases, you might need to cut costs, boost sales, or secure additional funding.

Finally, calculate your closing cash balance—this is the amount of cash your business will have in its accounts at the end of the forecast period. You can find this figure using the cash flow projection formula.

Starting Balance + Outflows – Inflows = Closing Cash Balance

Cash flow forecasting software can automate large parts of this process, both improving the accuracy of your forecasts and making it quick and easy to consult updated cash flow projections.

Cash flow forecast benefits

Cash flow forecasting provides many strategic advantages, from helping businesses pay off debt to maximizing returns on current assets.

• It can help businesses make informed decisions about cash outflow. Business owners prioritize potential investments constantly. Net cash flow can help you schedule expenditures strategically, whether it’s a new hire, a marketing investment, or a facility investment.
• It can help businesses identify cash outflow patterns. Using cash flow forecasting to identify opportunities to reduce unnecessary expenses, you can track outflows. Additionally, it helps you ensure that all of your bills do not come due at the same time, so you don’t have to carry too much cash.
• It can help businesses project growth or manage debt repayment timelines. Profits and losses can be anticipated over a quarter, a year, or longer. Developing a repayment timeline with cash flow projections can help your business take out a start-up loan, and reviewing monthly cash flows will help you determine if you are on track. Accrued profits are the same.
• It can help you put your funds to work. Most companies keep some cash in reserve. Beyond this, letting cash accumulate in your business bank account is unwise. You can free up funds by forecasting cash flow. You can use cash flow forecasting to invest in markets or grow your business.

Disadvantages of cash flow projections

Keep these caveats in mind when creating cash flow forecasts.

• It can be inaccurate—particularly under an indirect method. Just like a weather forecast, a cash flow forecast represents a best guess at what future conditions are likely to look like based on current conditions and existing models. And, just like a weather forecast, cash flow forecasts can be wrong. This is particularly true for seasonal forecasts made under the indirect method. Even direct cash flow forecasting, however, can be inaccurate, as this method assumes that your debtors will pay their bills on time and that you won’t incur any unexpected expenses during the forecasting period.
• It doesn’t account for unforeseen events. Cash flow forecasting doesn’t account for a tree falling on your workshop or your cat tipping a glass of water onto your keyboard. Businesses tend to keep extra cash in reserve to deal with these surprise expenses.
• It can be a time-intensive process. Even if you already operate on an accrual accounting method, your forecasting process will involve taking a close look at accounts receivable, accounts payable, and your balance sheet and either partitioning or extrapolating on these numbers to isolate your forecasting period—all before you begin your calculations.

Cash flow forecasting tips

So, how can you improve the accuracy of your cash flow forecast? Here are a few tips to help set you up for success:

1. Remember annual payments: Include any expenses you pay annually rather than monthly in your cash flow forecast spreadsheet. Examples include subscriptions and insurance policies.
2. Include estimated tax payments: When making your cash flow forecast, remember to include sales and non-sales income, like tax refunds in your cash inflows, and tax bills in your outflows.
3. Account for seasonal fluctuations: If you anticipate a period of lower sales, include it in your forecast so you have enough cash on hand when business picks up again.
4. Remember savings: Allocate a portion of any cash surpluses to save for lean months.
5. Be cautious with your predictions: It’s okay to be ambitious, but take a conservative and realistic approach to cash flow forecasts.
6. Use different layouts to provide greater detail: A detailed cash flow analysis can boost your chances of obtaining a loan or securing a large investment. Break down your annual forecast into month-by-month projections, then add each set of figures to get your annual forecast and predict net cash flow.
7. Account for extra pay periods: Ensure your projection accounts for months with extra pay periods. For example, if you pay employees bi-monthly, your forecast should consider months with more payrolls.
8. Create a rolling 12-month cash flow forecast: Keep your forecast within 12 months. Longer reporting periods in your forecast make the process time-consuming and yield little valuable insight.

Predict the cash flow of your business

Cash flow forecasting is a valuable tool in your strategic business development arsenal. It allows you to plan for the future and evaluate your performance relative to your predictions.

Investing in an accounting method (or accounting software) that makes generating cash flow projections possible is wise. Just remember not to mistake predictions for certainty—and keep a little cash around for those (proverbial) rainy days.

Conclusion:

Cash flow forecasting is a crucial tool for businesses, helping them predict and manage their cash inflows and outflows over a specific period. By using methods like direct or indirect forecasting, businesses can stay on top of payments, plan for future growth, and avoid cash shortages. While forecasting has many benefits, such as strategic investment planning and debt management, it also comes with some challenges, including potential inaccuracies and unforeseen events. With careful attention, realistic predictions, and the use of helpful tools like accounting software, businesses can enhance their financial planning and make informed decisions to secure long-term success.

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