What Is the Primary Purpose of a Cash Budget?
The primary purpose of a cash budget, also known as a cash flow projection, is to help you plan and strategize to be able to cover upcoming expenses. The process of listing anticipated expenses and anticipated cash on hand, and then comparing the two amounts, enables you to see where you may come up short, and it provides you with a time frame for developing a solution. Cash budgets are, of necessity, based on speculation. However, the more realistic your numbers, the better they will help you plan.
The foundation of your cash budget is your anticipated available cash, or the amounts that you expect to have on hand during the budget period to cover expenses. Unlike an income statement, which reflects taxable earnings, a cash budget also includes capital infusions such as loans, investments and personal funds that you use to keep your business operating. Because income from sales or services is one source of business revenue, the available funds in your cash budget will roughly correlate with anticipated sales; however, these two amounts will not be exactly the same.
The section of your cash budget that covers anticipated expenses is a summary of everything your business will have to pay during the budget period. It differs from the expense section of an income statement, because some business expenditures are not tax-deductible, such as owner draws or loan principal payments. Other outlays, such as depreciable equipment, may involve large payments up front, although you are only allowed to write off these expenses over time.
When your cash budget shows that your anticipated expenses exceed anticipated revenue, you must figure out ways to cover the shortfall. Although it is stressful and frustrating to discover you don't have the capital you need to operate your company, a cash flow budget that alerts you to an upcoming problem serves its primary purpose by prompting you to act proactively and seek alternatives. Cash financing options include loans and credit cards or delaying nonessential expenditures until cash flow improves.
The numbers in your cash budget should be based on careful research rather than wishful thinking. Solid numbers allow your cash budget to achieve its primary purpose by providing useful feedback about your cash flow situation. If you have been in business for a while, you can derive your numbers from past experience with purchasing patterns and seasonal fluctuations in sales. If you are starting a new business, gather as much concrete information as you can, such as prices for rent and materials, and base the rest of your projections on marketing research and variables such as anticipated production capacity.