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For most people, New Year’s Eve is a big night of celebration, a chance to end the holiday season with a bang, a time to reflect on the year before and to make resolutions for the year ahead. But unfortunately, for some of my clients, New Year’s Eve is not a festive occasion. Some would even consider it the worst night of the year. But why?
“Every year I’m reminded that New Year’s Eve is the end of the year,” a client recently told me. “It means you have to start over from the beginning.”
Despite all the reports of an economic downturn, the fact is that most of my clients had a pretty good 2022. But none of them would say it was easy and this year was particularly difficult, what with higher inflation, rising interest rates and so on financial challenges. But they fought and hustled and worked hard to make the year a success. So what is their reward at the end of the year?
They get to do it again. Yippee! All our previous achievements were short-lived. They are already in the past. They are wiped clean. January 1st resets everything to the beginning. And for many business owners, the future is uncertain and worrying. That’s why they hate New Year’s Eve.
But it doesn’t have to be that way. If you’re like many of my clients and dread the start of a new year, I have a way to ease your worries: forecasting. Ask yourself this question on December 31st: Do you know what your money will be on March 31st, just 90 days from now? If you can reasonably predict your future cash flow, wouldn’t you feel a little less uncertain about the future?
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Of course you will. That’s because when you know the future you can make a plan. and when you have a future plan you can feel better about the present. And you can do all of this with a simple, basic cash forecast. It’s not as difficult as you think. All it takes are these four simple steps:
Step 1: Determine overhead for the next 90 days
This should be simple: You know what your salary will be. You know your lease, debts and rent payments. You know what the utility, internet and other operating costs should be. I am not asking you to predict this for the whole year. Only for the next 90 days. Write this down.
Step 2: Agree on a reasonably estimated margin – or two
This does not have to be exact. Forecasting is an art, not a science. Now, I’m pretty sure you know how much gross profit you make on a typical sale, which is the selling price minus the direct costs of materials and labor to make or deliver it. If you have many products, take an average. If you only have a few product lines and it’s easy to calculate, then use two margins and split it between sales accordingly. Again, this is just an estimate. Maybe it’s around 20%. Or 30%. Whatever it is, pick a reasonable number.
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Step 3: Reach the “hard” part: Forecast your cash sales
I put quotation marks around “hard” because every client I have finds this hard. But it really isn’t. You only think about 90 days, not the whole year. I’m sure you have a list of open quotes and open orders (that haven’t been converted to sales). You have receivables that will be converted into cash during that period. You probably have some form of pipeline report from your customer management system. You can talk to your sales team to better understand what deals are being made. And, assuming you were in business before the pandemic, you have historical sales from similar periods. Put all this together and I bet you’ll come up with a reasonable estimate of sales over the next three months.
So now, take those sales. Apply the estimated margin against them and then deduct the overhead. Congratulations: You have now estimated your operating income. But you’re not quite done. There is one last step.
Step 4: Assess any extraordinary items
Do you have any big debt payments coming up? Big purchases? A pending big sale? Estimated tax payment? Bonuses? Is there anything else important on your mind that is out of the ordinary? Think about that too.
And there you have it, your final cash profit for the next 90 days.
Take your money on New Year’s Eve, apply the final number to it (hopefully it’s positive) and you’ll know your money 90 days from now. Not so tough. What’s tough is doing it the first couple of times. Once you get the process down, and you do it every month, something big will happen: you will feel better. Why? Because you want to know the future. And that’s what my best clients do. They don’t like surprises. They always look ahead. They do their best to know what’s coming later so they can make their plans now. They take the time every month to forecast cash because they don’t like running their business in the dark.
Forecasting is easier than you think. And it’s a critical management tool to help you run your business. If you do consistently, you will find yourself making much smarter decisions. But best of all, you’ll find yourself enjoying New Year’s Eve much, much more in the future. So Happy New Year.