Both Cash Flow Statement and Cash Flow Forecast only deal with cash.
Neither Cash Flow Statement nor Cash Flow Forecast show the profitability of a business. Instead, the profitability of a firm can be found out from Gross Profit Margin (GPM) and Net Profit Margin (NPM) based on the numbers from Profit and Loss Account (P&L Account).
Cash Flow Statement
Cash Flow Statement is the third main account published by a public limited company in the annual reports. As mentioned, it does not focus on profit, nor on Equity (or Net Worth), but it looks on how the company’s cash position has changed over the past year.
Cash Flow Statement is the record of all the cash received by a business and all the cash outflows from the business over a period of time. It is important to follow and record those movements of cash as all business activity results in a flow of cash either into the business or out of the business.
Cash Flow Statements are very important for accurate decision-making.
Cash Flow Statements help managers realise why a profitable business might be running out of cash. Perhaps trade credit given to customers is too long, the business is expanding too quickly requiring a substantial capital investment or there was unexpectedly high demand for products during high season that required extra spending on raw materials and higher wages for sales workers.
Also, Cash Flow Statements indicate why a loss-making business could be ‘cash rich’.
Perhaps the business received cash from its customers for last year’s sales, delayed cash payments to its suppliers until the next year, a new loan has recently been taken out, some of the Fixed Assets were sold for cash, there was huge sales of a new product and heavy price reductions or investors have made new capital injections.
Cash Flow Forecast
While Cash Flow Statement shows actual finalized accounts for the previous year, Cash Flow Forecast is a financial planning estimate that is dealing with the unknown future. There is always considerable uncertainty over the accuracy of Cash Flow Forecast because the future cannot be predicted by anybody.
Forecasting Cash Flow means trying to estimate future Cash Inflows and Cash Outflows on a month-by-month basis. It indicates where the company’s cash has come from during the year and how it has been spent. The accuracy of the Cash Flow Forecast will depend greatly on how accurate the Finance Manager is when it comes to forecasting market demand, sales revenue and different types of business costs.
Due to the crucial importance of cash as the ‘lifeblood’ of any successful business, all firms should engage in forecasting theirs cash flows. This will also help to identify cash flow problems before it really is too late.
