As we have seen, the books and records allow the preparation of annual financial accounts for a business. However, by the time they are prepared it is often too late for crucial management decisions to be taken . There are therefore several things that the small business (or indeed any business) should do to monitor trade throughout the year.

Controlling The Cash Position

Profit Does Not Necessarily Mean Cash

There is often a lack of appreciation that profits do not necessarily mean cash in the bank. Without close control the additional profits quickly become locked into non-cash forms: more stock is held, debtors increase, and possibly the profit gets tied up in capital equipment (see Figure 41). Such common problems have led to the winding-up of many a small business.

The Cash Flow Statement

In order to overcome this problem a simple cash flow statement (forecast) should be prepared. An example of this is shown in Figure 42. You can draft it on a piece of plain paper or get a preprinted form from your local bank if you prefer.

• Decide on the length of time that the forecast is to cover; for example, one year. The nature of the business may mean using a shorter or longer period, particularly if it is highly seasonal.

 

• Next, decide on the length of the individual periods to be forecast. Normally this would be months, but again depending on the business it might be better to prepare the statement by weeks or calendar quarters.

 

• Write in your initial (opening) cash or bank balance.

 

• Then forecast the cash receipts for each of the periods. Remember, if you sell goods on credit the cash may not come in for one, two or even three months after the date of the sale. Thus if you sell goods in the first month of the cash flow statement you should enter the cash received for those goods in the month of probable receipt (e.g. in the case of customers taking an average of 60 days credit, then the entry should be in month 3).

 

• Then forecast your cash outgoings. Remember to include such items as the purchase of capital equipment, the payment of PAYE and any other tax, and any drawings taken out by yourself. Remember, too, that you may be able to get credit on goods that you purchase. Thus goods delivered to you in month 1 may be paid in months 2 or 3 and the entry on the cash flow statement should therefore be in the relevant month. (Depreciation, as we have seen, is not a cash item, and so you don’t need to include it in your cash flow.)

 

• Next the boring part! – Add through the statement as follows: (a)Add up the total receipts for each period.(b)Add up the total payments for each period.(c)Deduct the total payments from the total receipts to arrive at the cash increase or decrease for the period.(d)Add the cash increase (or deduct the decrease) from the opening balance to arrive at the new cash balance at the end of the period. If the figure becomes minus you need to get an overdraft, or cut expenditure.(e)The closing cash balance becomes the opening cash balance for the next period.

 

By reviewing the closing balance each month you will be able to estimate the cash needs of the business. If, for example, your business has a seasonal Christmas trade you might need overdraft facilities to help you to buy stock in October and November before the cash comes in from the sales in December.

You can also add the actual expenditure to this statement each month in order to monitor the trading results. You might be surprised (? horrified) at how the actuals compare with your estimates. But you should get more accurate with experience.