Three ways treasurers are using short-term forecasts for working capital management

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Learn the three ways short-term forecasts improve the management of the working capital.

Chapter 1

What is the purpose of short-term forecasting?

Chapter 2

Challenges and solutions to short-term forecasting

Chapter 3

Three ways short-term forecasting helps in managing working capital
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Chapter 01

What is the purpose of short-term forecasting?

A short-term cash flow forecast is a technique for forecasting cash inflows and outflows over a duration of less than a year (mostly one to six months). A short-term cash forecast is generally used for short-term liquidity planning and continuous monitoring of daily cash flows.

Purpose of short-term forecasting

  • Making the best short-term lending/borrowing decisions possible.
  • Examining a number of what-if scenarios and developing strategies to prevent losses.
  • Avoid running out of money during a period of high volatility.
  • Assisting businesses in identifying the most appropriate financing for their requirements, including borrowing from banks and revolvers in advance.

However, businesses are less likely to create accurate short-term forecasts or increase the forecasting cadence due to certain factors.

Chapter 02

Challenges and solutions to short-term forecasting

Things to avoid in a short-term forecast

  • Failure to account for customer payment habits in forecasts
    Each customer has a unique payment pattern; hence the use of customer-specific factors to accurately forecast future cash flow is recommended.
  • Neglect comparing forecasts to actuals frequently
    Most companies either don’t perform variance analysis (comparing projections to actuals) or perform it briefly or at the last minute. Treasurers are thus more inclined to make reactive rather than proactive decisions.
  • Overlook making adjustments based on different circumstances
    Negative events are often underestimated, making it difficult to anticipate and plan for probable worst-case scenarios. Best practices always include what-if scenarios in forecasts to avoid negative cash flow repercussions.
  • Forget to frequently update data and forecasts
    Maintaining frequent forecasts with a spreadsheet might be difficult at times. To address this, cash forecasting software is designed to integrate effortlessly with ERP, TMS, accounting solutions, or other legacy systems through API or sFTP, allowing businesses to get global and real-time insight.

Challenges in creating a short-term forecast

  • Varied complexity of A/R and A/P
    The sheer amount of invoices, trade cycles, disputes, and discounts make A/R and A/P difficult to forecast accurately.
  • High upfront costs
    Cash-deficit companies often refrain from doing a regular forecast since the initial costs of leveraging technology are high.
  • Accuracy required at a granular level
    Many businesses cannot capture real-time data or adequate data required for short-term forecasting. This leads to low forecasting accuracy.
  • Delayed decisions due to delayed collaboration
    Time spent obtaining data from various sources such as banks, TMS, and multiple teams such as A/R and A/P departments results in delayed reporting and decision making.

Tips to maximize the value of the short-term forecasts

Here are some tips to improve short-term flow forecast accuracy:

  • Establish proper lines of communication
    The main problem for businesses is to gather up-to-date information on cash flows. This can be accomplished by encouraging better departmental communication.
  • Ensure visibility of all the money in bank accounts
    Bank data should be gathered automatically using an automated cash forecasting tool to make the data easily accessible.
  • Perform forecasts frequently (weekly or daily)
    Creating daily, weekly, or monthly forecasts provides an accurate prediction of future cash flows, ensuring liquidity for short-term needs such as borrowing.
  • Perform accurate and frequent variance analysis
    Frequently comparing predictions to actuals helps determine the root cause of the variance. It also helps in effective budgeting, risk management, and proactive decision-making through forward-thinking along with the detection of areas that need to be improved.
  • Use AI to predict sales
    Artificial Intelligence recognizes various client payment methods and allows the addition of several appropriate factors such as raw material price fluctuations and seasonality to improve cash forecasting accuracy while forecasting sales.
Chapter 03

Three ways short-term forecasting helps in managing working capital

Working capital is the net of short-term assets such as cash and equivalents, accounts receivable, inventory and prepaid assets, and short-term liabilities, including accounts payable, accrued liabilities, and short-term debt. In short, it looks at short-term cash flows.

Here are three ways short-term forecasting helps to manage working capital effectively:

Reducing working capital cost
Reducing working capital costs

Short-term forecasting allows businesses to stay ahead of the curve by successfully managing working capital and reducing the amount of credit required to cover operating expenditures, hence reducing working capital costs.

Securing corporate liquidity
Securing corporate liquidity

Companies with a strong liquidity reserve are typically better positioned to survive a financial crisis than those that do not. Maintaining sufficient cash at all times is one of a company’s primary strategic goals designed to safeguard its operations. An efficient and accurate short-term cash forecast is crucial in achieving this objective.

Prioritizing the payments
Prioritizing the payments

Many businesses experience a lack of liquidity, so it’s better to prioritize the suppliers that need to be paid depending on the company’s relations. Companies should remember to factor in missed or delayed payments for improving receivables. A cash forecasting software helps prioritize payments and plan things out for the future.

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