David Tilston, listed company CFO and IFT member, shares his insights on a liquidity key lesson at times of crisis: build a rolling cashflow.
I have dealt with a number of liquidity situations in the past, ranging from the severe to the potentially terminal. I pass on one useful lesson I have learnt.
Get a 13 week rolling cashflow forecast started as soon as possible, ideally this week, and update it weekly.
What is a 13 week rolling cashflow forecast?
It is a forecast which starts from a confirmed cash position (normally at the end of the prior week) and forecasts your cash balance at the end of each of the next 13 weeks. It is based on explicit assumptions around the cash receipts (normally from customers) you expect to receive, and the cash payments (including salaries, supplier invoices) you expect to make.
Why is it important?
It gives you a forward looking view as to your liquidity and whether you are in danger of running out of cash in the short term. If you are, then at least you can see when and decide what actions you need to take.
If you want to seek help from your lenders then you will be asked to produce a 13 week rolling cashflow forecast, and they may ask an external firm to review it. If you cannot produce such a forecast, then your lenders will have less confidence in the company being able to manage its liquidity position. In addition, it will give the lenders some perspective on how quickly they need to act and the potential amounts they might need to lend in the short term (possibly whilst a longer term solution is being worked on). If you are asking the lender to put in a large amount of cash next week, they may withdraw their support. The longer the notice period to the lenders, the more opportunity they have to potentially be supportive.
Some typical responses and how to deal with them
“We do not have time to do this” – It is much better to have a blunt forward-looking view of cashflows rather than a detailed backwards-looking analysis of performance, as the latter does not help you take the requisite cash preservation decisions in time. If you are not forecasting cashflows then you are not going to see with clarity an emerging problem which may be approaching rapidly, and this will not be good for credibility with your lenders should you have to speak to them.
“The forecast will be wrong” – this is absolutely correct as some assumptions and all forecasts will be wrong. However, the more you do it the better you will get at it.
“Why do I need to update it weekly?” – Firstly, so you can reconcile your week 1 forecast to the actual outturn 7 days later and understand where your forecasts were wrong (and therefore how to improve them). Secondly, you want to understand how your forecasts are evolving over time, and this is most easily done by graphing several of the forecasts on a weekly basis (as shown in the graph below). If the forecasts are generally consistent over a number of weeks and you project closing cash balances within a reasonable tolerance, then you can have greater confidence in your forecasting ability. If forecasts are continually ahead of reality and being downgraded (as shown in the graph) then that is probably a warning sign your assumptions are too optimistic.
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