Why Cash Flow Catches Out Otherwise Healthy Businesses

You can be profitable on paper and still run out of money in the bank. It sounds like a contradiction, but it happens to small businesses every week. Profit is an accounting idea based on when you earn and incur costs; cash is what actually sits in your account and pays wages on Friday. The gap between the two is where cash flow forecasting earns its keep.

A forecast is simply a plan for when money is expected to arrive and when it is expected to leave. Nothing more mystical than that. Build a decent one and you stop reacting to nasty surprises and start seeing them coming — often a month or two ahead, which is usually enough time to do something about them.

What a Forecast Really Shows You

Most owners already have a rough sense of how things are going. A forecast replaces that instinct with dates and numbers. It answers questions such as:

• Will there be enough in the account to cover the VAT bill in the second week of March?
• If a client pays 45 days late, which month gets tight?
• Can we afford to hire in April, or does that push us into an overdraft by June?
• How much deposit do we need from a big job before we start buying materials?

These are timing questions, not profit questions. That is the whole point.

Building Your First Forecast in a Spreadsheet

You do not need software to start. A spreadsheet with one column per week and one row per cash movement will do the job, and you will understand it better because you built it yourself.

• Choose your period. Twelve weeks is a good working horizon for most small businesses — long enough to spot trouble, short enough to stay reasonably accurate. Add a monthly view for the year ahead if you have the patience.
• Enter your opening balance. Use today's real bank balance, not the figure you were expecting last month.
• List money in: customer receipts by expected payment date, deposits, grants, loan drawdowns, anything else.
• List money out: suppliers, wages, PAYE and National Insurance, rent, utilities, insurance, VAT, loan repayments, your own drawings, card fees and subscriptions.
• Add a closing balance at the foot of each column: opening balance plus money in, minus money out. Next week's opening balance is this week's closing balance.

One rule matters more than any other: record cash when it moves, not when the invoice is raised. An invoice dated 3 April and paid on 20 May belongs in the May column.

Be Realistic About When Money Arrives

This is where most first attempts flatter the business. If your terms are 30 days, your customers probably do not pay in 30 days. Look back over six months of bank statements and work out your actual average debtor days. If it is 52, forecast 52 — then add a few more for the awkward ones.

Be specific rather than tidy, too. Instead of a single line for "sales: £20,000", list the individual invoices you are expecting and the dates you expect them. If one customer represents a quarter of your income, show them separately, because you need to see what happens if they slip.

Don't Forget the Lumpy Costs

Regular outgoings are easy to forecast. It is the occasional payments that wreck a plan which looked perfectly fine.

• Quarterly VAT, especially months where a VAT bill and a payroll run land in the same week.
• Insurance renewals, professional subscriptions and software paid annually.
• Corporation tax, usually nine months and a day after your year end, plus any payments on account.
• Seasonal stock buying before a busy period, when cash goes out long before it comes back.
• Equipment replacement, vehicle repairs, and your own tax bill if you are a sole trader.

Work through last year's statements and pull out everything that is not monthly. Slot those into the right months, then diary a reminder to update them next year.

Keeping It Alive, and Using It When Things Look Tight

A forecast built once in January and never touched is worse than none, because it offers false comfort. Set aside twenty minutes a week — Friday afternoon works well — to update actuals and roll the horizon forward. Reconcile against your real bank balance, and if the two have drifted apart, find out why before you carry on.

Set yourself a trigger: if the closing balance in any week drops below a figure you would be uncomfortable with, that is your signal to act. Options usually include chasing specific overdue invoices, asking a large customer for a staged deposit, delaying non-essential purchases, agreeing a payment plan with a supplier, or speaking to your bank and accountant early rather than late. Lenders respond far better to "I can see a squeeze in six weeks, here is my plan" than to a missed payment.

Finally, test a couple of scenarios. What happens if your biggest customer pays a month late? What if a key contract does not renew? Running those numbers takes ten minutes and turns a vague worry into something you can plan around. Review the whole forecast properly once a month, and share it with your accountant — they will spot patterns and tax timing you may have missed.