Cash Flow Forecasting and Funding Needs in ACCA FM

Understand Cash Flow Forecasting and Funding Needs

Key rules to remember

Closing cash balance

Closing balance = Opening balance + Receipts − Payments

The closing balance of one month is the opening balance of the next.

Net working capital

Net working capital = Inventory + Receivables − Payables (+ cash if included)

Follow the question's definition. Most growth questions use inventory, receivables and payables only.

Receivables balance

Receivables = Annual credit sales × receivable days ÷ 365

Use credit sales only. Use 360 or 52 weeks if the question says so.

Inventory balance

Inventory = Annual cost of sales × inventory days ÷ 365

Use the base the question gives, usually cost of sales.

Payables balance

Payables = Annual credit purchases × payable days ÷ 365

Use purchases if given. If not, use cost of sales as a stated approximation.

Increase in working capital

Funding needed = New net working capital − Old net working capital

A rise is a cash outflow. A fall releases cash.

Cash received from credit sales

Cash received in month = Sales of earlier month × % paying after that credit period (less discounts taken)

Apply the lag to the month of sale, not the month of receipt.

How to solve Cash Flow Forecasting and Funding Needs questions

1. 1Read the question and note the periods, the opening cash balance and the credit terms for receipts and payments.
2. 2Draw a columnar layout with one column per period. Use rows for receipts, payments, net cash flow, opening balance and closing balance.
3. 3Work out receipts first. Apply the credit lag to the month of sale. Remove any discounts and irrecoverable debts as instructed.
4. 4Work out payments. Apply the payment lag to purchases and put wages, overheads, tax, dividends and capital items in the month they are actually paid.
5. 5Leave out non-cash items such as depreciation and any profit figure. Only cash movements go in.
6. 6Calculate net cash flow, then closing balance, and carry it forward. Note the largest deficit and when it occurs.
7. 7For growth questions, compute receivables, inventory and payables at old and new levels. Find the net increase.
8. 8Comment on funding. Match short-term deficits to short-term sources and permanent increases to long-term sources, and say what you would do with any surplus.

Quickest way: Rows-and-lags shortcut

Common mistakes in Cash Flow Forecasting and Funding Needs

• Including depreciation or other non-cash items in payments.

  Students copy costs from an income statement without asking whether cash leaves the business.

  Fix: Ask of every line: does cash move in this month? If not, leave it out.

• Putting receipts in the month of sale rather than the month of cash receipt.

  The sales budget is laid out by month of sale, so it is easy to carry it straight across.

  Fix: Write the credit terms at the top and apply the lag line by line.

• Forgetting that discounts reduce receipts.

  Students focus on the lag and overlook the early-settlement percentage.

  Fix: Receipt = sales × % taking discount × (1 − discount rate). Add the other group at full value.

• Using total sales instead of credit sales to calculate receivables.

  The question gives one sales figure and the student does not check for cash sales.

  Fix: Strip out cash sales first, then multiply by days ÷ 365.

• Treating the whole working capital balance as the funding need instead of the increase.

  The balances look like answers by themselves.

  Fix: Calculate the difference between new and old net working capital. Only the change needs new finance.

• Recommending long-term finance for a temporary deficit, or an overdraft for a permanent need.

  Students describe sources without linking them to the pattern of the deficit.

  Fix: State whether the gap is temporary or permanent, then match the source and explain why.

Worked examples