Fixed Cost In Break-Even Analysis Refers To The Cost That Good Cash Flow is the Life Blood of a Healthy Business

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Good Cash Flow is the Life Blood of a Healthy Business

Good cash flow is the key to “Company Health” and is the “lifeblood” of all businesses, so planning and predicting what will happen and when it will happen is tantamount to a successfully run business.

Having the tools to optimize these cash flows and being able to forecast cash flows and run what-if scenarios with your Cash Flow Forecasts is key. Having easy-to-use cash flow forecasting software is a necessary tool for business owners and accountants working on behalf of their client to prepare professional reports.

When making decisions about how to optimize future cash flows, having well-prepared cash flow projections to review and present to your management or investors or the bank where your business is looking to raise financing is a must.

Some key areas to consider when preparing a cash flow forecast are the following:

1. Forecast period – Depending on the use of cash flow and profit forecasts will depend on the period for which you need to prepare statements. This is usually for a period of 3 years, but in some cases this can be for longer periods and can be up to 7 years.

2. Professional looking reports – It is important to have professional looking reports and they should include at least: cash flow; profit and loss; and balance.

3. Additional reports – Reports in addition to the above essential ones include: an assumption report showing the key assumptions used in the preparation of the financial forecasts; forecast summary page with profitability analysis; a trade summary showing the product lines of the business and the associated cost of sales; an overhead report showing a full breakdown of business expenses; statement of fixed assets with corresponding depreciation; credit report showing bank loans, pay-off purchases and the like; and VAT/Sales Tax or GST statement.

What if scenarios

After preparing the statements, it is always a good idea to run various “what if” scenarios and print the resulting profit and cash projections to reflect the changes to the assumptions you have made. It’s extremely useful to do a sensitivity analysis of your numbers to see how your future cash flows could be affected by, say, a 10% drop in sales, etc.

The figures

When crunching the numbers to feed into your cash and profit projections, you’ll need to look at your current overheads and decide how they’ll change in the future, for example how much your current premises are worth in terms of rent and property taxes the property, so forecasting this expense will be very easy. However, forecasting your sales may be a bit more difficult, but the associated costs will be easier to calculate if they are to be in line with your current costs.

When you decide to forecast your sales you will need to be able to back up your claims and certainly if they are higher than your profit and loss of recent years then you will need to be able to explain the increase. Likewise, you will need to be able to explain your overheads and any increases or decreases in these figures from your previous information.

Profit and loss versus cash flow

Make sure you understand the difference between profit and loss and cash flow, for example if your business is registered for VAT (Sales Tax or GST) and if customers take time to pay you because you provide credit terms, then the amount of sales should included in the income statement will be different from the amounts included in the cash flow statements.

Let me explain this for clarity through an example: let’s say your January sales are £10,000 excluding VAT and that your customers take an average of 30 days to pay their invoices.

The amount to include in your profit and loss statement for January would be £10,000, while for the same set of sales the amount included in the cash flow would be £11,750 (where VAT is 17.5%) and be included in the month of February. Furthermore, the VAT on these sales will be included in the payment to the government (where it is paid quarterly) with the following two months’ sales, minus the VAT on purchases, in the month of April as a cash outflow.

Realistic predictions

At the end of the day, it is vital that your cash flow projections reflect what is a realistic forecast of what you think will happen, so that when you present the statements to your management, bank or investors, they have confidence in it. which you are saying and will therefore be happy to invest or lend money to the business if that is the reason for making these forecasts.

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