cash flow

13 Week Cash Flow Statement

by Tom Gray | on Jan 01, 2012 |  Comments

“Cash is King” in a small business.  A cash shortage is one of the hallmarks of a business slipping into trouble – a distressed business.

The owner’s first priority is to pay the vendors whose services keep cash coming in. Bank loans don’t do this, so the owner asks the bank to wait for its payments. In response, the bank wants to know the company’s prospects for paying in the future. It asks the owner to forecast revenue and costs, and predict cash flow using a 13 Week Cash Flow Statement. See 13-Week Cash Flow Model Creates Clear Communication Channels.

What Does a 13 Week Cash Flow Statement Look like?

The “statement” is a spreadsheet containing a column for each of the next 13 weeks, i. e., the next quarter of the year. Starting with cash on hand at the beginning of the period (BOP), on a weekly basis it adds cash expected to be received from outstanding invoices, from work in progress, and from new business in the next 13 weeks. Then it subtracts the cash used to pay for the variable costs for completing such work, and the expected overhead or fixed expenses to be paid during this period. The net is called “cash flow.”

The cash flow at the bottom of each week (end of period or EOP) becomes the cash on hand at the start of the next week (BOP). Thus the net at the bottom of each week is cumulative, showing all the expected cash-on-hand at the end of that week.

Moving from one column to the next is like turning the page in a checkbook register. The first entry is the cash on hand at the end of the previous week. Each week’s column is like the page in that checkbook register, with cash at the top, money coming in, money going out, and the cash on hand at the end of the week.

The Challenge for a Small Business Owner

Small business owners usually understand their expenses very well, and they know what is owed them for completed work and work in progress.

Their problem is forecasting new work and new revenue. Their bookkeeper is not a forecaster, and their accountant looks backward, not forward, so the cash forecast becomes the owner’s task. Unfortunately, the owner of a small business spends most of his or her time working in the business, not on the business. They normally rely on others to track the numbers.

When the owner has to do the forecast, they feel overwhelmed by the variety of possible work that might come in, and the uncertainty of what kind of work will come in during any given week. They know the bank is being reasonable to ask about their prospects, but feel frustration and resentment when asked to predict the unknown!

How does a small business owner predict revenue, costs, and cash flow on a weekly basis? Is there a secret formula? Probably not, but there are some techniques that can help you make a reasonable forecast for the coming weeks, whether or not your business is distressed and facing a cash shortage. We’ll describe them in subsequent posts.

Tom Gray helps owners save and grow their companies. He is a management consultant focused on small business and telecom, a Certified Turnaround Professional (CTP), and a SCORE Mentor. He can be reached at 630-512-0406 or tgray@tom-gray.com. For information on the scope of Tom’s activities, see www.tom-gray.com. For more on SCORE services, see www.scorefoxvalley.org.

13 Week Cash Flow, Part 2 – Forecasting the Knowns

by Tom Gray | on Jan 01, 2011 |  Comments

Uncertainty and the variety of potential developments is the challenge in preparing a 13 Week Cash Flow statement. But this task has some easy parts too. The first step is to forecast known revenue and costs – outstanding invoices, work in progress, and new work from proposals already submitted. This part of the process has three steps.

1. Invoices: Identify the invoiced amounts you have not received yet. Note how much you expect to receive in each week.

2. Work in Progress:  How much will you invoice for this work in progress? When will you send the invoice, and how much later will the cash payment be received? Your revenue is booked when the invoice is sent, and this shows up on the “income statement” or “P&L Report”. But for a cash flow statement, the important date (or week) is when the cash comes in. You cannot pay a vendor with booked revenue! You need cash.

This timing difference between invoice and receipt of cash is the most important difference between the income statement and the cash flow statement.

If you expect to pay out additional cash to complete this work in progress, be sure to add that additional expense to your predicted cash outflow for the coming weeks. Use separate lines (rows) in your spreadsheet to show the costs for work in progress separate from the costs of new work you have not started yet.

The typical rows would be materials, labor, and subcontractor expenses, any unusual shipping or packaging expenses, and any sales commissions. These are called “variable costs” or “costs of goods sold (COGS).”

3. Known Future Work: You may have already made a bid or proposal, or you intend to. This should be a third set of rows in your spreadsheet. For each of these jobs, use a separate worksheet to estimate the revenue, costs, timing, and percent likelihood of getting the job. Then you can use a summary on your master spreadsheet.

For this future work, you will need to make some realistic estimates. When will the customer decide? Should you assume he will take the price you bid, or will you need to come down a bit? When will you order supplies and when will you have to pay cash for them? When will you complete the job and invoice it, and when will you receive cash from the customer? If there are “progress payments” along the way, how much and when?

What are your chances for getting each of these jobs? You will multiply each of the revenue and cost figures by this “probability percentage” estimate, making your forecast a more realistic view of the prospects for the business.

Next you will estimate business as yet unknown. We’ll cover that in the next post. At this point you know the format of the 13 week cash flow statement, you forecasted the revenue and costs for outstanding invoices, work in progress, and likely new work you already know about.

Tom Gray helps owners save and grow their companies. He is a management consultant focused on small business and telecom, a Certified Turnaround Professional (CTP), and a SCORE Mentor. He can be reached at 630-512-0406 or tgray@tom-gray.com. For information on the scope of Tom’s activities, see www.tom-gray.com. For more on SCORE services, see www.scorefoxvalley.org.

13 Week Cash Flow Part 4 – Forecast Complexity & Conclusions

by Tom Gray | on Jan 01, 2011 |  Comments

When developing a 13 Week Cash Flow Statement in a job shop, forecasting future business seems especially difficult due to the variety of jobs that might be won in future weeks. The solution is to select a few typical product or job types from experience, and forecast those as representative of the type of work that might come in. Choose job types significantly different from each other.

For example, 60% of the work might be small parts you have built before, 30% might be new jobs with simple designs, and 10% might be new complex designs. Probably the more complex jobs will have longer durations, so that you incur cash costs but do not receive cash payments during the 13 week period. You might use different percentages if you choose to do best case and worst case scenarios too.

Is Your Forecast Reasonable?

Once you have a forecast, check it to see if it is reasonable. How does it compare to your cash flow from prior weeks? It should not be radically different.

Do you have enough labor to do the work you forecasted? Do you have enough space and machine time? Does the forecast imply more time spent on quotes and selling than you yourself have available, given the time you will be spending on production and perhaps bank negotiations?

Split Your Labor Cost

A common error is double-counting or under-counting labor. Many company bookkeepers show all payroll as a “fixed” cost because that is the easiest way for them to calculate payroll taxes. But that means you cannot know the margin per product, because you don’t assign the labor costs to the product.

Part of your payroll is a variable cost, that is, labor requirement per job or task. Since employees always have some paid time not assigned to particular jobs, a reasonable forecast will need to show non-productive labor time and cost as an overhead or fixed cost, separate from labor hours assigned to jobs as variable cost or COGS. Payroll taxes should be split the same way.

Non-productive labor time can be as much as 45%, so this is important! Your accounting software (e.g. Quickbooks) entries showing payroll as a fixed cost are only a starting point.  Use MS Excel to split payroll into productive and non-productive components to forecast margin and cash flow by product type.

Drawing Conclusions

The business owner should draw two types of conclusions from the Cash Flow forecast: product profitability and business viability.

Analyzing the cash flow by product or job type as shows you the margin per product before overhead. If overhead is 30% of total company revenue, and your product generates a 30% margin (revenue less variable cost / revenue), then you break even and have no profit.

In this example, if you want a 15% profit before tax, your products must generate a 45% margin on average. If they don’t, you must reconsider your price, perhaps raising your “shop rate”, or discontinue products that fall short of the target profit. See Pricing in a Job Shop: Setting the Shop Rate | Thomas H. Gray

Business profitability depends on product profitability, as above. The bank asks for a 13 week view because it knows that a near term forecast is more reliable than long term. But the business owner who has long duration jobs often decides to forecast cash flow for six months (26 weeks) to be able to see the cash payments for long duration jobs, rather than just the costs. In this case, a longer view is needed to get the most realistic picture of business viability.

Forecasting cash flow from unknown future work in a job shop can be done by choosing representative product or job types. Key issues include double-counting or under-counting labor, nonproductive labor time, shop rate, and margin per product or job type.

Tom Gray helps owners save and grow their companies. He is a management consultant focused on small business and telecom, a Certified Turnaround Professional (CTP), and a SCORE Mentor. He can be reached at 630-512-0406 or tgray@tom-gray.com. For information on the scope of Tom’s activities, see www.tom-gray.com. For more on SCORE services, see www.scorefoxvalley.org.