Forecasting Cash Flow

Forecasting Cash Flow Definition

Cash flow forecasting is forecasting or anticipating the cash inflow and outflow for the future period by the management of the business to make sure that the business will have sufficient funds to carry out the activities on a regular basis, and if there is any shortfall, they has to plan for alternate sources of funding for the business.

Usually, such a forecast is prepared for a period of 12 months, and is constantly monitored based on business situations and changed accordingly. For example, a small size firm will have its forecast even for a week’s period, whereas an established firm with strong cash flow may prepare it once in a month.


The purpose of forecasting the cash flow is to understand the liquidityLiquidityLiquidity shows the ease of converting the assets or the securities of the company into the cash. Liquidity is the ability of the firm to pay off the current liabilities with the current assets it more position of the business. This will help to know what could be the possibly available cash balance in the future period. It helps to keep track of the cash inflow and outflow. It also helps in estimating the cash needs for running the business and the sources available to fund the same. It is a proactive approach to manage the funds.

This exercise helps in identifying probable shortfall in the cash balance much earlier and acts like a cautioning system. It helps in planning the cash outflow like payment to suppliers, employees’ salaries, etc. It also helps in buying credit days from the suppliers if they anticipate the shortfall in the cash balance.

It helps the management to focus on the customer receivables, long-pending dues, and outstanding can be followed up for the purpose of cash inflow. Indirectly this forecasting helps in making the monitoring system better.

Forecasting of cash flow is part of financial budgeting and planning, and it also helps in seeking funds externally from banks or financial institutionsFinancial InstitutionsFinancial institutions refer to those organizations which provide business services and products related to financial or monetary transactions to their clients. Some of these are banks, NBFCs, investment companies, brokerage firms, insurance companies and trust corporations. read more.

Methods of Forecasting Cash Flow


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There are two methods –

  1. Direct Method: It is used for short term forecasting purposes. It is based on the anticipated direct cash inflow and outflow in the future period. It helps to know the cash flowCash FlowCash Flow is the amount of cash or cash equivalent generated & consumed by a Company over a given period. It proves to be a prerequisite for analyzing the business’s strength, profitability, & scope for betterment. read more position at various points of time in the future. The input for this method of forecasting is cash receipts and payments.
  2. Indirect Method: It is used for long-term forecasting, business planning, and it is linked to the strategies and goals of the business. It is derived based on the Income statementIncome StatementThe income statement is one of the company's financial reports that summarizes all of the company's revenues and expenses over time in order to determine the company's profit or loss and measure its business activity over time based on user more/ balance sheetBalance SheetA balance sheet is one of the financial statements of a company that presents the shareholders' equity, liabilities, and assets of the company at a specific point in time. It is based on the accounting equation that states that the sum of the total liabilities and the owner's capital equals the total assets of the more and working capitalWorking CapitalWorking capital is the amount available to a company for day-to-day expenses. It's a measure of a company's liquidity, efficiency, and financial health, and it's calculated using a simple formula: "current assets (accounts receivables, cash, inventories of unfinished goods and raw materials) MINUS current liabilities (accounts payable, debt due in one year)"read more movements during the projection period.

Example of Cash Flow Forecasting

XYZ Inc., a manufacturer of fabrics, forecasts its cash flow for a period of 3 months based on the following inputs. The opening balance of the cash position is $450.

Forecasting Cash Flow Example
You can download this Forecasting Cash Flow Excel Template here – Forecasting Cash Flow Excel Template


  • It helps the management to look into the future of the business and to helps them in decision making in relation to the performance of the business and to manage the funds of the business.
  • It helps in understanding the difference between cash flow and profits, and it helps to formulate the steps to keep both the elements close.
  • It helps to control the spending to manage the cash flow position stable. It helps to manage the funds effectively and acts as a check and makes the spending more accountable.
  • It is important because if the business has a shortfall in the cash flow and if it has liquidity issues, then chances are there where it may go insolvent, to take all precautionary steps this exercise helps the management to establish proper control over the business.

Advantages of Cash Flow Forecasting

  • To forecast the cash flow, Income, and expenditure of the future period also need to be forecasted. It is useful in predicting the financial position, and performance and the management will know in advance the possible actions to be taken for the improvement.
  • This forecast helps to know possibly available cash balance in a future date, based on which management can plan for capital expenditures and major procurement.
  • It helps to track down the due receivables from clients and due payments to suppliers. Constant follow up can be done with clients to make sure money is received on time, and also based on the forecasted cash position, it could help in deciding to buy more credit days from the supplier.
  • It is useful for scenario analysis; it helps to figure possible ways of earning and spending, planning the expenditure, etc.
  • If the business estimates to have surplus cash, it helps in deciding about proper investment channels or further expansion of the business.


  • It is based on assumption and possible outcomes, and it is not certain that the event may happen according to the forecasts, there can always be a deviation from the forecasts and management should always have that contingency factored.
  • It is probable that forecasts give a sense of confidence and security to the management and any major deviation from the same, and if the business is not prepared to face it, it can create problems in the operations.
  • It is an estimate, and any unanticipated events and unplanned expenditure can bring out huge cash outflow, which may lead to negative cash flow, and it can increase the liabilities.
  • Cash flow is derived based on other elements like revenue, expenditure, etc., any change in those will have a direct impact on the forecasted cash flow.
  • Long term forecasted cash flow is far away from reality. Sometimes it can misguide the decision-makers as it is a mere estimate.
  • The forecast is subject to assumptions, people involved in forecasting should make sure all the assumptions have been considered after proper analysis and any update on the assumptions should be given effect in the cash flow (E.g.) Interest rate, tax rate, inflation rate, various governing financial laws, etc.


Cash flow forecasting is one of the business planning exercises, and it is much needed in order to understand the cash flow position and to make decisions in relation to liquidity position, financial performance and to monitor the same. It acts as a check for the management to conduct the business with sufficient funds and plan their expenses. Forecasts are estimates, and deviation from it will always be there, it only acts as a guide in foreseeing the future cash flow position and liquidity.

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