If you’re running a business in manufacturing, you’re no stranger to the challenges of managing finances. But here’s a question: Are you giving your cash flow the attention it deserves? If not, you might miss one of the most powerful tools in your financial toolkit.
Why Cash Flow Matters More Than You Think
Picture this: Your business is booming, orders are flooding in, and your profit margins look healthy. Everything’s perfect, right? Not necessarily. Even profitable businesses can struggle with cash flow issues. That’s because profit and cash flow are two different beasts entirely.
While your customers are undoubtedly the lifeblood of your business, cash flow is the vital circulatory system that keeps everything moving. It’s the total amount of money flowing in and out over a specific period. This crucial metric measures your ability to cover expenses, make investments, and meet financial obligations. In other words, it’s what ensures your business stays healthy and robust day-to-day.
The Cash Flow Trifecta: Operating, Investing, and Financing
When we talk about cash flow, we’re really looking at three key areas:
- Operating Cash Flow: This is the money generated from your core business activities. Think sales revenue, rent payments, salaries, and utilities.
- Investing Cash Flow: This typically is money spent on new equipment, buildings, and other assets. In a growing business, this number is often negative – but that’s not always a bad thing!
- Financing Cash Flow: This covers the movement of money between your business and its investors or creditors. It includes loans, stock issuances, and dividend payments.
Cash Flow vs. Profit: Understanding the Difference
Now, let’s clear up a common misconception. While profit is important, it’s not the same as cash flow. Here’s a quick breakdown:
- Cash Flow is about liquidity – the money available to operate and pay bills in real-time.
- Profit is about profitability – the amount your business makes after all costs are accounted for.
You might be profitable on paper, but if you don’t have cash in the bank to pay your suppliers or employees, you’re in hot water. That’s why cash flow management is crucial.
The Power of Cash Flow Forecasting
This is where things get exciting. While a cash flow statement tells you what happened in the past, a cash flow forecast helps you plan for the future. It’s a forward-looking projection that acts as a planning tool to predict your future cash needs.
Types of Cash Flow Forecasts
Depending on your business needs, you might use one of these three types of forecasts:
1. Short-Term Forecast (8-12 weeks)
- Focuses on immediate cash needs, covering operational expenses and managing receivables/payables
- Ideal for small businesses, startups, and companies with tight cash needs
- Provides high visibility and helps manage day-to-day operations
2. Medium-Term Forecast (3-12 months)
- Offers a broader view over a longer period
- Helps plan for capital expenses and debt payments
- Allows businesses to prepare for seasonality, moderate investments, and potential cash flow gaps
3. Long-Term Forecast (1-5 years)
- Provides a strategic overview, supporting long-term planning, growth strategies, and capital investments
- Used by larger businesses or those with significant capital investments or long-term growth strategies
- Supports strategic decision-making and expansion plans
The benefits of cash flow forecasting are numerous. It ensures liquidity by helping you predict and prepare for future cash needs. It supports growth and investment by giving you a clear picture of your future cash position. It improves decision-making, guiding you on whether to take on new clients or hire more staff. It enhances relationships with suppliers, employees, and creditors by ensuring you can pay on time. In these unpredictable times, it serves as your financial predictor, helping you navigate uncertainty and reduce the need for emergency funding.
Best Practices for Cash Flow Forecasting
To make the most of your cash flow forecasting efforts, there are several best practices to keep in mind. First, choose the forecasting term that aligns with your business needs and goals. Whether you opt for short-term, medium-term, or long-term forecasts (or a combination), make sure it fits your specific situation.
Regular updates are crucial. Your forecast should be a living document, reflecting the most current information available. Use realistic assumptions based on solid data and reasonable expectations. When creating your forecast, clearly break out operating, investing, and financing activities. This separation provides a clearer picture of where your cash is coming from and going to.
Closely monitor your receivables and payables. The timing of when money comes in and goes out can make a significant difference to your cash position. Align your forecast with your budget and overall financial goals to ensure they’re working in tandem. Lastly, keep track of key metrics like cash burn rate and cash conversion cycle. These indicators can offer valuable insights into your cash flow health.
Your Next Steps
Ready to take control of your cash flow? Start by tracking your cash flow regularly – weekly is ideal for most businesses. Choose the right type of forecast for your business needs and implement the best practices we’ve outlined. Use your forecast to inform all major business decisions, and make sure to review and update it regularly as conditions change.
Remember, cash flow management isn’t just about avoiding problems – it’s about seizing opportunities. With a solid grasp on your cash flow, you’ll be well positioned to take your manufacturing business to new heights.
Need help getting started with cash flow forecasting? That’s what Rea is here for. Let’s chat about how we can help you build your financial data into a foundation for success.
By: Ryan Brickwood and Mindy Gallman