Cash Budgeting and How to Use it

Short-tem Financial Planning

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Cash Budgeting 

Within the broad category of business budgeting, the owner of the small business may want to do some specialized budgeting with regard to cash flow. One type of budget that is practically necessary to the survival of the business firm is cash budgeting.

There's nothing more important to your business than cash. The way cash moves in and out of your business is cash flow and can be the difference between staying in business and going belly-up.

A cash budget determines the patterns of how you take in and pay out money over a specific period of time, such as a month, quarter or year, with the goal being to maintain sufficient cash for operations and liabilities, and that you're not leaving too much cash idle or in unproductive capacities.

Short-term Financial Planning

The cash budget is one of the primary tools used in short-term financial planning in order to plan for cash flow. It is often developed on a month-by-month basis. A good cash budget allows the owner to see short-term financial needs and opportunities for the business. One month, the firm may have extra cash and may be able to save some money in a money market fund or take advantage of a bargain in the marketplace. Another month, the firm may have a shortfall and have to withdraw some money from savings or even apply for a short-term bank loan to cover its needs.

You can see by looking at this explanation of a cash budget how owners state their expected cash inflows (sales revenues) and outflows (expenditures) on a month-by-month basis in order to calculate their excess cash or cash shortage at the end of each month.

This is an extraordinarily helpful short-term planning tool for the small business owner.

Three Main Components

  • Time period
  • Desired cash position
  • Estimated sales and expenses 

Time period is straight-forward. 

The desired cash position, or the amount of cash you want to keep on hand depends on a number of factors - the nature of your business; the flow of accounts receivable and the possibility of drastic change such as an immediate opportunity or unfortunate occurrence.

Estimating future sales, cash receipts and expenses during the selected time period is fundamental to the preparation of an effective cash budget, and it has to be as accurate as possible. The most important, and elusive, is the estimate of sales.

Analysis

Once the cash budget is prepared you've got to track it against reality - how close is your company performing to these expectations and projections. That will give you the real-world input to adjust the cash budget for this period, and refine your thinking for the next period.

Small business owners should pay close attention to their cash position, cash flow and the veracity of their cash budget. Preparing a monthly budget versus actual report will provide you with actionable information to make important decisions.

Financial Forecasting

Cash budgeting is the second step in the firm's financial forecasting process.