In 2021 my team agreed to help with a turnaround project for a struggling manufacturer in the Southeastern US.

One of the first items the operations manager wanted was a cash flow projection. While I love turnaround projects, the cash flow task made my heart sink.

I'll explain why in a second.

What is a cash flow projection? 

Think of a weather forecast. Today the temperature is -2 degrees (unfortunately true, here in Wisconsin). That reading is objective and verifiable.

However, experts at WeatherBug are predicting 9 days from now -- Wednesday, February 8 -- the high temperature will be a balmy 22 degrees.

That is not an absolute certainty. Instead, a computer looked at incoming and outgoing weather "fronts" and spit out the magical 22-degree estimate for February 8.

A cash flow projection works the same way.

Today your business has $50,000 in checking. By considering incoming and outgoing cash "fronts," you can project what the checking balance will be on February 8.

An extremely simple cash forecast might look like this:

This chart actually shows three projections - one for the next 9 days, one for the next 2 months, and one for the next 10 months.

According to this, the business will need extra cash to survive on March 31. The problem will be fixed by November 30.

This is incredibly helpful information, right?

In my opinion, not really.

3 Reasons I Hate Cash Flow Discussions

Important disclaimer: These comments pertain to smaller companies without a dedicated finance team. If I were writing to a full-time CFO at a $100M company, it would be a different article.

1. A Precise Cash Flow Forecast is Virtually Impossible

That's right. Unless you've got stable daily sales and collect payment immediately upon sale, cash inflows swing wildly from week-to-week and month-to-month.

In fact, it's hard to predict cash flow even if your cash cycle is consistent!

For example, let's say you start a projection this morning when the checking balance is $50,000. You get called away to run payroll and deposit a down payment on a new order.

During that break, your checking balance changed dramatically. Plus, if you had today's payroll listed as an outflow, you'll need to remove it from your half-finished projection.

What about the new down payment that just came in? Was that already estimated in your projection or not?

If inputs swing wildly even before you finish the projection, how can you possibly be accurate 60 or 90 days from now?

2. Cash Flow = Profit (Eventually) Anyway

I hear finance experts all over coming up for air:

"Scott, what opiates are you taking?!"

None that I know of. Assuming the stockholder is not injecting new cash or taking dividends, cash flow always (eventually) equals profit.

I realize "eventually" only happens on the last day of operations when the company sells everything and pays back debt. But it happens. The cash left over is equal to the company's profits.

It's also true that while the company is operating, cash flow and profits can diverge wildly. Without earning a dime, you can increase cash by borrowing money. Conversely, money invested in a building decreases cash without any impact on profit.

Even a company that does not borrow or invest can experience wild timing differences between cash flow and profit. That is why many finance experts live by the mantra "Cash is King" and preach the importance of cash flow.

The problem with that sermon is it makes "cash flow" seem like an abstract idea disconnected from profit. The reality is that for many small companies, "cash flow" is essentially profit that becomes cash on a different day than the profit was earned.

For a simple example, let's say you mow someone's lawn for $110. After subtracting fuel cost, your profit for the day is $100. If the customer doesn't pay you that day, your cash flow is negative $10 (cash spent on fuel). Your checking account is at -$10.

When the customer pays you 30 days later, your profit that day is $0, but your cash flow is $110. That brings your bank account back up to $100, which is exactly equal to the profit you earned 30 days ago.

Back to the struggling manufacturer. Their main problem was lack of profit, not lack of cash flow. The cash problem was the natural result of selling products at a loss.

Spending time on cash flow projections felt like measuring the water leaking from a dike instead of fixing the dike!

To be clear: There is a time and place for cash flow projections. This is especially true when cash is scarce at a profitable company. It also makes sense for companies with heavy borrowing and investing activities.

Just keep in mind though, you can't fix a profit problem with better cash flow projections.

3. Better Cash Flow Trumps Better Forecasts

Let's say you're running a profitable company perennially tight on cash. This usually stems from one of the following factors:

1. Increasing inventory.

2. Increasing accounts receivable.

3. Decreasing debt (i.e. paying down debt).

4. Purchasing new trucks, buildings, etc. with cash.

Rather than building a complex cash projection to estimate upcoming cash needs, the more effective path might be to address the above factors first.

Here's how you could increase cash flow in each of the above situations:

1. Hold less inventory. Focus on buying "just-in-time" or in smaller quantities.

2. Collect receivables earlier, especially aging receivables. Consider offering a discount for early payment.

3. Structure longer-term loans with smaller monthly payments.

4. Use debt to buy fixed assets, rather than paying cash.

Each of these steps can have a staggering impact on cash flow. These steps might also slightly ding profits, but they give the company oxygen.

Conclusion

TLDR (Too Long; Didn't Read) version:

1. For many small businesses, cash flow is simply profit you receive on a different day than you earned the profit.

2. Accurately predicting cash flow for a small business is very hard.

3. Before trying to predict cash flow, work first on: A) making sure the company is profitable, and B) taking steps to bring in cash as fast as profit (or faster!)