Once that we have the first part of our financial plan crafted, the next step is to think about the cash flow forecast and the break-even analysis.

• Cash flow forecast

What is it?

A cash flow forecast is the forecast of all the income that you receive and all the outgoing expenses. It will help us to avoid a crisis of liquidity.

Why do we have to do it?

1. Because it is very useful if you want to know how much money you spend on marketing, administration issues or even on eating-out or the coffee that you order every morning on your way to work.
2. It is also useful to keep a track of your clients’ payments.
3. Thanks to it, we will be able to identify any shortfall and act accordingly before it is too late.
4. This will also allow us to set up a budget for each of these types of expenses.

How are we going to do it?

The first thing that we are going to do is differentiate all your expenses. What I personally do is to split up my expenses in different groups, for example, like this:

Business expensesAccountantCAT tools	MarketingWebsiteBusiness cards Events	Social lifeEating-outMorning coffees	EssentialsRentBills Food
TrainingCPD coursesUniversity studies	SuppliersPost office feesDistribution company	Stationary PensInk for your printer	Etc.

 

Once we have divided all our expenses in different groups, what I do is to set a budget for each of them and try to stick to it as much as I can. Obviously, if it is the first time that you are crafting a financial plan, these budgets may not be very accurate, but you will have a clearer picture when you start gathering information from it.

Now we have to differentiate fixed cost from variable costs. A fixed cost is a cost that you have to pay monthly or annually and it is not going to change. A variable cost may be a punctual cost, that’s it if, for example, you need to get a new computer or you are getting some Christmas goodies for certain clients.

What for? As we are not usually able to change fixed costs, we will have to adapt variable costs to the budgets that we have set for every expense group.

• Break-even analysis

In economy, a break-even point is the sales amount that we need to cover both variable and fixed costs that we incur within our businesses. This is essential if we want to know how many products/services we have to sell to cover those expenses.

At the break-even point, the total profit is always zero. This only happens when prices of products/services that we sell are higher than their variable cost per unit. This is important when we set the prices of the different services that we offer.

To sum up, we can say that at the break-even point, there is no loss or gain. This is therefore important to be aware of the minimum amount of sales that we need to reach this point.

Let me explain this with an example. So, imagine that you are working on an assignment. You are going to charge to your client £50 for it. However, with that money, you will have to pay for the delivery of the documents, taxes and a special tool (an OCR tool, for example). You will have to pay £20 for all of that.

So, you reach the break-even point as you pay the costs (£20) with the money that you are charging to your client and, besides, and you still have £30 of what we call the margin of safety.

By calculating the average selling price per unit (your monthly income/ number of units sold) and the cash flow forecast, you will be able to calculate the margin of safety of your business and track its performance whether monthly or annually.

Now it is your turn. Try to craft your own financial plan and implement it within your business strategy. Obviously, these are only the basics of a financial plan. I encourage you to develop your financial plan as your businesses grow. Next week we will talk about how can we optimise and keep up-to-dated a financial plan. If you have any doubts, do not hesitate to leave a comment or contact me at: blog@circalingua.com