17th December 2019
If you’re running a business, you’ve likely heard some variation of the phrase: cash is king. It’s repeated because it’s so true. If there’s no cash, there’s no business.
That’s why cash flow forecasting is such an important task. As we’ve explained previously, proper forecasting is the lifeblood of early-stage and high-growth companies. Most businesses intuitively grasp the importance of accurate forecasting. Doing it, however, and getting it right is a little more complex.
Forecasting and budgeting are about much more than the name suggests. This isn't just about expenses. They are prepared at the start of the year and contain your goals and aspirations for the business.
So how can you create an accurate forecast rather than just a pipe dream that has little basis in reality? The simple answer is that relevant historical data is your best guide, and even then a steady hand might be needed to adjust forecasts as conditions change.
For startups, however, historical data might be hard to come by. After all, if you’ve only existed for six months, you won’t have much to draw on. But don’t let that stop you. Forecasts are difficult (if not impossible) to do absolutely accurately.
Historical data and startups
You can substitute historical data for other things. Market data is easy to find, for example (the Office for National Statistics is a useful place to start). Define your addressable market in terms of products, demographics, region, prices, distribution and growth.
Forecast for expected revenue and don’t get too hung up on getting absolutely spot-on. A critical part of effective forecasting is adjusting. As you go along, compare your actual to your forecast and do variance analysis every month.
Variance analysis is important not only because it allows you to adjust your forecast, but because it’s a chance to address any problems your business is facing. If there’s a variance between actual costs and forecasted costs -- why?
Don’t just assume the variances are caused by an inaccurate or unrealistic forecast. Of course, that could be the case. But it could also be a change in market conditions, competitor actions, an unexpected event or runaway expenses.
Address the variance
It’s important to address the variance and why it’s arising. If you can control it, control it. If you can’t, then amend your forecast. Like many parts of the forecasting process, technology can make this much simpler.
Xero, for example, has a variance analysis tool and the Propel dashboard makes accessing your numbers simple and intuitive. It’s possible to carry this out manually in Excel, but for startups already stretched on time, it’s not feasible to dedicate hours to poring over a spreadsheet.
Cloud accounting has made this process much simpler. With old desktop accounting systems or spreadsheets, you’ll need to transfer your financial manually into your forecast. With cloud accounting, used in combination with a forecasting tool, this is done in one click.
Software can automate many of the nuances of forecasting and help you identify trends as you grow and progress. The aim, as already stated is not perfection, but careful control of the assumptions around growth.
Understanding the future
Ultimately, specifically for startups, forecasting is how you’ll understand how much money you’ll need in the future and when. Potential investors, in particular, will expect to see a clear, accurate forecast.
They don’t expect perfection, but showing an astute understanding of your business’s financials and how it has changed is a big step in the right direction. Investors want to see whether the business will make money. They want to see how soon you can generate a return.
An investment pitch is essentially a narrative. There are many startups and all manner of wonderful ideas out there jostling for investment. What will really set your business apart are well-managed forecasts.
Propel’s experts can support your move to cloud accounting, and help you to forecast the growth of your business.