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Direct cash forecasting solution: Treasury leader’s guide to forecasting cash flows with granular visibility and high accuracy

What you’ll learn

  • The pros and cons of the direct method of cash flow forecasting.
  • The key attributes and benefits of direct cash forecasting

Attributes of direct cash forecasting

Direct cash flow forecasting or short-term cash forecasting estimates when money will flow in and out of the business during certain times. It tries to predict when payments will be made on specific days or weeks during the month. All forms of transactions, including credit and cash transactions, as well as bills, invoices, and tax, are included in the direct approach.

Because an accurate cash forecast is so important, CFOs and treasurers frequently rely on what’s known as direct cash flow forecasting. It’s a bottom-up strategy that combines real-time data from all of the company’s bank accounts with the company’s major cash flow items, which are often its submodel accounts like payroll, accounts payable (A/P), taxes, leases, accounts receivable (A/R), collections, and equity distributions.

Some attributes of direct cash forecasting:

  • Time horizon: Short to medium term, generally less than 1 year.
  • What does it show?: Operational cash requirements and cash required to fund working capital.
  • How is it created?: Analysis of upcoming receipts/ debtors and payments/ creditors.

Uses of direct cash forecasting

The direct cash forecasting method or short-term cash forecasting is useful for treasury to manage a business’ day-to-day cash and funding requirements, as well as to aid with financing and investment decisions. In this process, actual cash flows get reflected in the forecast as close to real-time, and variance analysis is performed to assess forecast accuracy.

However, if the company has a lot of transactions in the operations portion of the cash flow statement, the direct method is tough since they all have to be numbered and each transaction has to be examined to see if it included cash. All bills and invoices associated with the firm are included in direct cash flow estimates from operations, as well as tax and interest.

Direct cash flow modeling should also include sensitivity testing to see how new ways of doing business with clients might affect cash flow, as well as modifying assumptions and inputs to evaluate the impact of unfavorable events.

The pros and cons of the direct cash forecasting method

Pros Cons
Simple to grasp. Financial planning can be
challenging to reconcile.
High accuracy can be achieved over short-term periods. It’s not a good tool for long-term planning.
Can be detailed with highly granular visibility. It is tough for businesses with a high volume of transactions to keep track of each one.

Why should treasurers use direct cash flow forecasting?

The treasury department’s business function, which is to carry out the capital allocation plan, is to produce a complete, real-time, and direct forecast. The ability to compare real performance to actual bank statements gives internal decision-makers and external stakeholders more confidence. Decision-makers can shorten cash conversion cycles and boost free cash flow or take advantage of chances to relieve future cash flow challenges when they have clear and timely analysis.

Benefits of direct cash flow forecasting

Direct or short-term cash forecasting can be used to calculate cash flow accurately for a short to medium time period. It forecasts when payments will be made and when the funds will appear in the account. Cash receipts minus cash disbursements are the results of the direct method, and the final amount is net cash flows from the business.

Direct cash forecasting helps in:

  • Monitoring cash inflows and outflows:
    • Payroll runs
    • Accounts payable runs
    • Accounts receivable runs
    • Tax obligations
    • Leasing and insurance payments
    • Stock payouts(if a public company)
  • Increasing transparency: The direct cash flow technique highlights the main sources of cash financing and receipts, which might be of use to creditors and investors.
  • Lowering the cost of working capital: Keep ahead of the curve by successfully managing working capital regularly and reducing the amount of credit used to cover operating expenses.
  • Conducting scenario analysis in order to take preventative steps: Stress test what-if scenarios by assessing cash deficits or surpluses frequently.
  • Improving accuracy: Direct cash flow statements are more accurate since they do not rely on modifications, and take less time to create.
  • Improves confidence in decision-making: Since it increases confidence in the company cash forecast’s accuracy, it improves the ability to make better strategic and proactive decisions.

Talk to an expert to learn more about how a direct cash flow forecast can be helpful for your business.

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The HighRadius™ Treasury Management Applications consist of AI-powered Cash Forecasting Cloud and Cash Management Cloud designed to support treasury teams from companies of all sizes and industries. Delivered as SaaS, our solutions seamlessly integrate with multiple systems including ERPs, TMS, accounting systems, and banks using sFTP or API. They help treasuries around the world achieve end-to-end automation in their forecasting and cash management processes to deliver accurate and insightful results with lesser manual effort.