Cash Flow Projection For Operating Loan Determination

A cash flow statement can be simply described as a record of the dollars coming in and the dollars going out of a business. It shows where the money comes from (the inflow of cash) and where the money goes (the outflow of cash).

Actual and Projected Cash Flow

A record of cash inflow and outflow that has already occurred in a business is an actual or historical cash flow. An estimate or forecast of cash inflow and outflow into some future period is a cash flow projection. The actual cash flow of a business provides important information for making a cash flow projection into the future. The cash flow projection reveals the cash generating ability and the cash requirements of a business and it indicates the timing of both.

Total Business and Partial Business Cash Flow

A cash flow can be set up for the entire farm business (including family living expenses and nonfarm income) or it can be set up to study only the business or a segment of the business. For example, it may summarize all the cash expenses and income from a specific enterprise. A cash flow projection will be used to consider the cash inflow and outflow effect of a proposed investment or change in the business.

Long-Run Profitability vs. Short-Run Feasibility

Two management questions that need to be studied in regard to proposed business changes are long-run profitability and shortrun feasibility. Long-run profitability refers to a period of 5 years or more and is usually studied through the use of projected income statements.

Short-run feasibility refers to the incomegnerating ability of a business in a short period of time, usually 1 year to 3 or 5 years. It is usually studied through the use of a projected cash flow. The Cash Flow Projection form in this leaflet can be used to study the short-run feasibility of a business change. It has been designed specifically to project the operating loan balance of a farm business for each monthly period.

Preparing a Cash Flow Projection

Information for preparing a cash flow projection may come from historical farm records, tax returns, and other applicable information you may have.

A cash flow projection is made periodically- monthly, bimonthly, quarterly, semiannually or annually. This cash flow projection form is designed to be used on a monthly basis.

The “Annual Estimate” column is frequently filled in first. Then the annual estimate is allocated to the various months or periods. Directions for arriving at the “Total Cash Inflow,” “Total Cash Outflow,” “Net Cash Flow” and “Projected Operating Loan Balance” are given on the form.

Interpretation of a Cash Flow Projection

To illustrate the use of the Cash Flow Projection form, a sample set of figures has been recorded on the form.

In the example, line 16 shows the total cash inflow (not including loan receipts) and line 48 shows the total cash outflow (not including operating loan payments). Net cash flow is the dif- ference between cash inflow and cash outflow and is shown on line 49 for the annual estimate and for each monthly period.

If the cash inflow for the period is greater than the cash outflow for the period, the net cash flow is positive. If the opposite is true, the net cash flow is negative. For example, the January projected total cash inflow of $7,100 (line 16) is less than the total cash outflow of $10,200 (line 48) so the net cash flow for January is -$3,100 (line 49). In March, the total cash inflow of $126,600 (line 16) is greater than the total cash outflow of $10,800 (line 48), leaving a net cash flow of $115,800 (line 49).

The projected operating loan balance for each month is calculated on line 50. The operating loan carried over from the last period should be written in the appropriate space after the caption on line 50. In the example, the operating loan carried over from the previous December is $100,000. For each monthly period, the projected operating loan balance is determined by combining the previous balance with line 49 net cash flow for that period. A negative cash flow figure for a month increases the operating loan balance so it is added to the previous projected operating loan balance to determine the projected operating loan balance for that period. For example, the January net cash flow of -$3,100 is combined with the $100,000 operating loan carried over from the previous December to arrive at a January projected operating loan balance of $103,100.

A positive net cash flow for a month reduces the previous month’s projected operating loan balance. For example, the March net cash flow of $115,800 (line 49) is subtracted from the February projected operating loan balance of $96,250 (line 50), leaving a March projected surplus of $19,950 (line 50). If the net cash flow for a month is greater than the projected operating loan balance for the previous month, the difference can be labeled surplus.

The projected operating loan balances (line 50) for each month can be used as a guide in projecting the approximate amount of loan funds needed and the timing of the loan fund needs.

What Will a Cash Flow Projection Do

As farm businesses grow and as larger quantities of cash are needed, a cash flow projection becomes a more essential tool in the financial management of farm businesses. A cash flow projection gives the farm operator a basis for studying the financing of the business. It indicates how much needs to be borrowed and when it is needed.

A cash flow projection provides for “control” of the business. By comparing the projected cash flow to the actual cash flow that occurs, the variance of each item can be noted. If receipts are less than expected or expenses more than expected, the cash flow will alert the manager to a possible problem.

A cash flow projection helps in planning additional investments in the farm business. To be sound, an investment must be profitable in the long run. It must also be able to generate enough cash to make the payments on principal and interest.

A cash flow projection is also a great tool for considering “what if” scenarios and conducting sensitivity analysis. At a minimum, producers should consider best case scenarios in addition to the expected or most likely situation. It is one of the most important financial tools in managing risk.

Table End Notes

Principal payments on all loans not a part of this operating budget go on lines 39-41 All interest goes on line 25.

Add negative “Net Cash Flow” figures of each period to “Projected Operating Loan Balance” of previous period to arrive at “Projected Operating Loan Balance” for each period. Similarly, subtract positive “Net Cash Flow” figures from “Projected Operating Loan Balance” of previous period.

The purpose of line 50 is to provide information for estimating the amount of operating borrowings needed in each period. The cash inflow and outflow items above do not include receipt or payment of operating loans. NOTE: To calculate the net cash flow for the farm business alone, subtract line 42 from line 12.