Budgeted Cash Flows

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The principles of cashflow forecasting

Cashflow forecasting enables you to predict peaks and troughs in your cash balance.

It helps you to plan borrowing and tells you how much surplus cash you’re likely to have at a given time.

Many banks require forecasts before considering a loan.

The forecast is usually done for a year or quarter in advance and divided into weeks or months.

In extremely difficult cashflow situations a daily cashflow forecast might be helpful.

It is best to pick periods during which most of your fixed costs - such as salaries - go out.

It is important to base initial sales forecasts on realistic estimates

Calculation of cash budgets

  • Include Payments received / paid from Credit sales/purchases

    (Payments from credit sales are usually received at a different time than cash sales)

    For example, if we make credit sales in January of $100,000 and 60% of these will be paid in the following month, then in February we must include ($100,000 x 60%) = $60,000 cash from January sales.

  • Deduct any discount given

    For example, if credit sales are made and a discount is given to pay in that particular month, the discount must be removed before the amount is included in the cash budget, for example if sales are made in February of $150,000 and a 2% discount is given to pay in the month of purchase, and 50% take this discount, then cash of sales from February is ($150,000 x 50% x 98%) = $73,500

Note that not all expenses in the income statement are cash eg depreciation/accruals.

Not all sales are cash - only put them in the table when cash is RECEIVED.

Not all purchases of NCA are cash eg Finance leases - just put in the cash PAID to the lessor.

There is nothing difficult just needs practice

Why might a forecast differ from the actual flows?

  • Poor forecasting techniques

  • Unpredictable events or developments, eg:

    (i) Loss of a major customer
    (ii) Insolvency of a major customer who owes the company money
    (iii) Changes in interest rates
    (iv) Inflation, which may affect various costs and revenues differently

Illustration

The following details have been extracted from the receivables collection records of Beta Co.

Invoices paid in the month after sale 60%
Invoices paid in the second month after sale 25%
Invoices paid in the third month after sale 12%
Bad debts 3%

Invoices are issued on the last day of each month.

Customers paying in the month after sale are entitled to deduct a 2% settlement discount.

Credit sales values for June to September are budgeted as follows:

June July August September
$45,000 $50,000 $70,000 $55,000

The amount budgeted to be received from credit sales in September is:

Solution

$
August sales $70,000 x 60% x 98%* 41,160
July sales $50,000 x 25% 12,500
June sales $45,000 x 12% 5,400
-----------
59,060
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*This reduction allows for the 2% settlement discount.

If you selected the first option you misinterpreted 'month after sale' to be the month the sale was made.

The invoices are issued on the last day of each month, therefore cash receipts in respect of each month's sales will begin in the following month.

The third option makes no allowance for the settlement discount and the fourth option includes the receipt of bad debts; those amounts will never be received cash.

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