Forecasting Cash Flow PDF

Forecasting Cash Flow
Understanding What Drives

Positive Cash Flow
By Jeffrey Kenneth Prager

Forecasting Cash Flow: Understanding What Drives Positive
Cash Flow
Copyright © 2018 by Jeffrey Kenneth Prager, Cash Flow Engineering, LLC
All rights reserved. No part of this book may be reproduced or transmitted in any
form or by any means without written permission from the author.
Printed in USA by Cash Flow Engineering, LLC
Disclaimer and/or legal notices: This publication is designed to provide

information about the subject matter covered. It is presented with the
understanding that while the author is a Retired Certified Public Accountant,
neither he, Backroom Management Services, LLC, nor Cash Flow Engineering,
LLC is engaged by the reader to render legal, accounting or other professional
service. If accounting advice or other expert assistance is required by the reader,
the services of a competent professional should be sought. The purpose of this
publication is to educate. Neither the author nor Backroom Management
Services, LLC nor Cash Flow Engineering, LLC shall have any liability or
responsibility to any person or entity with respect to any loss or damage caused,
or alleged to be caused, directly or indirectly by the information contained in this
publication.
If you have further questions, contact Cash Flow Engineering, LLC. Our regular
business hours are Mon-Thurs. 8:30 am – 4 pm MST. During these hours, you can
reach us by phone or email. Outside of these hours, either call and leave a message
or email us.
Phone: 303-221-0823
Email: info@CashFlowEngineering.com
Website: www.CashFlowEngineering.com
Contents
Contents ............................................................................................................... 2
About the Author ................................................................................................. 3
Section 1: Introduction........................................................................................ 4
Section 2: What keeps the average owner from success? ................................... 6
Section 3: The Bucket Theory ............................................................................. 9
Section 4: Definition of Cash Flow .................................................................. 12
Section 5: The Worksheet ................................................................................. 13
Section 6: Going forward ................................................................................... 16
Section 7: Cash verses Accrual Accounting ...................................................... 20
Section 8: Conclusion ....................................................................................... 26
Get to the Next Level ......................................................................................... 28
Page 2 © 2018 Jeffrey Kenneth Prager, all rights reserved

No part of this book may be copied, used or reproduced without the express written consent
of Cash Flow Engineering, LLC.
About the Author
Jeff Prager is the founder of Cash Flow Engineering, LLC. Jeff is a retired CPA,
author, speaker, and entrepreneur. “Since I retired in 2007, I’ve helped hundreds
of business owners who find themselves struggling, stuck or just not growing as
fast as they’d like, dramatically improve their cash flow and profits, strengthen
their management teams and help them earn more money than they’ve ever made
before.”
Founder and CEO, Jeff Prager, has been a CPA, business owner and
entrepreneur for over 35 years. He was one of the founders of Ashworth Golf
Clothing, the CFO/partner of a large land development company and the owner
of Strauss Homes, which was the second largest privately owned home builder
in Colorado and in the top 100 privately owned companies of Colorado (2003).
During his career, Jeff has helped companies raise over $1 billion (of which
$200 million was for his own companies). Jeff also served as an instructor of
Managerial Economics (applying economic theory to business decisions) at the
University of Colorado at Denver. Jeff has spoken at the International Builders
Show and is a frequent contributor to NAHB Biztools and other publications of
NAHB. He was published in the 2012 Cost of Doing Business Study and is a
contributor to that study.
He is also the author of two books published by

BuilderBooks:
• Managing your Business with 7 Key
Numbers
• Financial Forecasting in Microsoft Excel
In addition, he self-published The Peddler’s Son.

1
Section : Introduction
Small Business is the backbone of America. But there’s a problem: most of the
business community is mired down in misinformation, misunderstanding and
misleading myths that cost us billions every year!
Solution: When you focus on the right numbers, the right activities, the right
objectives with the right systems in place, your business can succeed!
Q: What is the number one objective of a business owner?
The #1 Objective of a business owner is to drive consistent, predictable and

sustainable cash flow. In Cash Flow Engineering®… you view every dollar spent
as an investment.
Let me ask you a simple question… Would you invest a dollar in the stock market
if you knew that you’d only receive 87 cents back? Hardly! So why would you
spend money in your business if you didn’t get a return on your investment?
If you paid out a dollar… and knew you’d get a RETURN of $1.25, wouldn’t you
throw every dollar you could find at your business? In fact, your labor is an
investment, your marketing is an investment and you should demand a return on
those investments.
Question: Do you know where your investment is paying off? Do you look at your
business as an investment?
Why businesses fail

Running a business is hard! 80% of new businesses fail in the first 5 years. 80%
of the surviving businesses fail in the next five years. That leaves only 4 out of
every 100 new businesses to succeed. Almost all of these failures are caused by
a lack of cash. But, that’s just a generic excuse.
According to Forbes magazine, the 5 most frequent causes of cash flow problems
(note the emphasis on cash flow, not profits) are:
• Not in touch with customers: customers don’t know what you offer.
• No real market differentiation.
• Failure to communicate the value proposition.
• Leadership breakdown at the top.

o Poor: planning, capitalization, skills and financial education,
or organizational alignment
• No defined profitable business model:
o Predictable income streams, positive cash flow, profitability
o Management isn’t monitoring their relevant numbers (both
financial and non-financial)
Bottom line: The number one problem facing business owners is that they
don’t have enough cash:
• To pay themselves (enough to compensate them for the time, energy
and money they’ve invested in their business)
• To invest in marketing and sales
• Or reinvest in their business in order to get it to the size and value they
need to have to enjoy the lifestyle they deserve.
Our firm belief is that if business owners would pay attention to cash flow
and their numbers, more would enjoy the fruits of success!

2
Section : What keeps the average
owner from success?
The basic key to business survival is to generate both short- and long-term cash
flow (notice we did not say profit). Most of us realize that the fundamental process
in survival is to generate cash (hopefully profit) by charging more for your
products than it costs to produce them.
A key to profitability and cash flow is planning. Planning involves numbers and
a lot of business people are afraid to look at their numbers. There is a phobia used
to describe this condition: Arithmophobia.
Arithmophobia. Numbers are the language of business. Our experience tells us

that business owners who follow their numbers are much more successful than
those who don’t. So why don’t they? Like many business owners, they could fear
their numbers. This is one of the most prevalent illnesses a business owner has,
and it’s called Arithmophobia!
Most business owners either ignore their numbers or are afraid of their numbers.
That’s because no one has ever helped business owners understand their numbers
and they aren’t all that complicated. In reality, business owners simply don’t know
which numbers to watch, when to watch them, how to interpret them and what to
do if they don’t like the numbers they see. It can be terrifying. Again, we hope
to mitigate that risk through this book.
Now, for some of you, what’s holding you back from your potential is simply how
you view managing your business and its numbers.
It’s true that traditional accounting is complex, frustrating, and confusing. Do you
know what it takes to be a great accountant? Third-grade math! Addition,
subtraction, multiplication, and division! And all great accountants use
calculators, so we’re not even that good at math.
Yet as a business owner, you don’t need math at all. That’s because the most
useful financial tools are those that compare where you are with where you want
to be. You just look at two numbers, see which one is bigger, and decide which
one needs to be bigger. It’s just that simple. Are your ratios higher or lower than
you want them to be? Are your cash balances higher or lower than you want them

to be? Is your profitability higher or lower than you want it to be? Thumbs up or
thumbs down?
That’s why you look at your numbers. Not to do complex math. In fact, it’s
perfectly acceptable to rely on computers to do the math for you—as long as you
know what the computers are doing and why. You don’t need to be scared of your
numbers. And if you find yourself doing complex math or being confused by what
you’re seeing, then you’re probably looking at the wrong numbers to begin with.
Bottom line: Numbers are not your destination but your guideposts
to your destination!
Measuring: Look at the cash you had on hand last month… What about 6 months
ago? Or 12 months ago? If it is about the same, then there is probably no reason
to think that anything will change unless you do something different, starting
today.
So, let’s focus on “finding money from nowhere”. Every business has it and you
can “find” this money by knowing what, when and where to measure in your
business. Measuring always releases money, like magic. The more you measure,
the more magic you create and the more profit you find.
Measuring leads to obvious insights into what works and what doesn’t, so
decisions become easy to make. Measuring gives you numbers you can trust and
that trust turns into confidence about your decisions. Confident decisions lead to
rapid profit increases. Confidence also leads to peace of mind. It makes operating
your business so much easier, with less stress, less pressure, more clarity and
results.
We’ve seen instant increases in performance just by showing business owners

how to measure. For example, if we start measuring our conversion rate, from
incoming leads to paying customers and measuring it every week, we’ve found
that it tends to increase by 10% instantly because you’re focused on it and want
to improve it. This increase translates to cash in the bank.
Managing: Let me share with you something your CPA won’t tell you: A number
in and of itself has no value. You need a benchmark, a number to which to
compare your results. Managing your business is nothing more complicated than
comparing two numbers.
If you have a benchmark, then you can say something is good or bad and requires
attention. Best of all, you don’t need to be a mathematician; you only need two

things to be successful at understanding your numbers: third grade math (addition,
subtraction, multiplication and division), and the ability to point your thumbs up
or down. That’s it. In fact, I’ve never used more than 3rd grade math in running
my businesses.
Are sales what you expected? Are costs within reason? Thumbs up or thumbs
down?
Let me give you an example: If I made $50,000 in profits (after salary), is that
good or bad. Obviously, it depends. Now, let’s say my goal was to make $10,000
in profits – thumbs up or thumbs down? If I normally make $1,000,000 in profits,
thumbs up or thumbs down?

Section 3: The Bucket Theory
There is one obsession that should occupy your mind as you run your business:
Cash Flow. Not profit, but cash flow. I’ve mentioned this already, but now I want
to spend some time talking about why cash flow is so important.
And it’s a very simple question: Have you ever tried to use an accounts receivable
to pay your employees’ salaries? You can be wildly profitable on paper, but you
can still be paralyzed until the checks are actually in your account. I’ve had this
happen to a number of clients. It’s incredibly frustrating: The balance sheet is
positive, the income statement is promising, but there’s not a penny in the bank.
In fact, I’ve seen it where bankers will say: “Your financials are really, really
good, but there is one problem…you have no cash.”
Improve your cash flow by mapping the route your cash takes
So, let’s revisit how cash flows into and out of a business. Simply put, a company
is nothing more than a big checkbook.
To understand cash flow, it helps to visualize it. And the best example we’ve come
up with is below. Cash is the lifeblood for your company. And you should know
exactly how it circulates throughout your company’s veins. You want to know
where you’re leaking cash—whether it’s through cost overruns, interest
payments, unreasonable fixed costs, or what. You can’t plug your leaks until you
know where those leaks have sprung.

Your business is the trough and cash is the water. The water flowing into your
trough comes from selling stuff (your products or services), or from investments
(selling assets like equipment), or from financing activities (such as increasing
debt or selling more stock in your company). The water flowing out comes from
paying for your costs of goods sold, payroll, interest and other expenses, making
principal payments against your debt, and buying more assets (like buildings,
equipment and furniture). And there, at the end, is the spigot you really want
flowing – the one that goes into your pocket.
Unfortunately, that spigot only flows when the expense taps are all taken care of.
So, what happens when the spigots flowing into the trough are turned off? Your
customer says, “I owe you one bucket of water to be delivered in two months.”
You can’t pass that IOU through the outflows, can you? You have no choice but
to shut those off as well—by slashing costs, laying off employees, cutting into
your own profit, or many other draconian measures that ultimately affect the long-
term viability of the company.
By the way, think of cash as a good four letter word. CASH is the lifeblood of
any company and can allow your business to do any number of things it would be
incapable of without them. Cash will make your business venture worthwhile and
will allow your company to thrive and grow.
Cash can be used to reduce debt, pay taxes, invest in your people (raises, bonuses,
increase benefits, increased training), invest in your company (savings for that
rainy day, improve work facilities, expand the business) or pay yourself
(dividends or pay it forward).
Pay attention to your cash flows, not just your profit. You can afford to turn off
the profit spigot for a while, but you cannot afford to turn off the cash spigots even
for a moment. See Section 7 below for more discussion about cash flow vs. profit.
One last thought: look at the vertical dotted line in the figure above.
Unfortunately, accountants don’t think like you. Our buckets clearly show money
coming in and money going out. But certain monies coming in and going out
show up on the income statement (left of the dotted line) and certain monies
coming in and going out show up on the balance sheet (right of the dotted line).
So, why do accountant’s think that way? Well, they (and your bankers) look to
financial statements for other types of information which don’t help you in
running your business.

Cash flow is increased by selling more goods and services for cash, collecting on
accounts receivable faster, selling an asset, increasing the selling price, paying
slower, bringing in more equity or taking a loan.

4
Section : Definition of Cash Flow
Simply put, cash flow is the difference in the amount of cash available at the
beginning of a period (Beginning Cash) and the amount at the end of the period
(Ending Balance). Cash flow is positive if the closing balance is higher than the
beginning balance or negative if the closing balance is lower than the beginning
balance. The changes during the period are represented by the total of cash
coming in less the cash going out.
Period 1 Period 2 Period 3 Period 4
Beginning Cash
+ Cash In
- Cash Out
=Ending Balance Beginning Cash
+ Cash In
- Cash Out
+ Cash In
- Cash Out
+ Cash In
- Cash Out
=Ending Balance
The level of cash flow does not necessarily mean high or even any profit; and high
levels of profit do not automatically translate into high or even positive cash flow.
However, over the long term, you want to drive cash flow through operations (sale
of your service and product) and generally if cash flow is high due to operational
performance, profits usually follow.

Section 5: The Worksheet
Ultimately, planning for cash flow is somewhat different than planning for profits.
Usually, you should start off by looking at where you were historically before you
project what your cash flow will look like going forward.
We capture this information on the following worksheet:
The Bucket Theory 1/31/2018 2/28/2018 3/31/2018

Cash receipts
Total collections (A) $ 185,000.00 $ 400,000.00 $ 230,500.00
Non-operating cash receipts (calculated)

Draws on loans or line of credit - - -
Proceeds from long term debt - - -
Capital contributions - 1,500.00 -
------ ------ ------
Total Other Cash Injection (B) - 1,500.00 -
------ ------ ------
Total cash receipts (C = A+B) $ 185,000.00 $ 401,500.00 $ 230,500.00
------ ------ ------
Cash Disbursements
Operating Disbursement
Purchases $ 62,500.00 $ 248,000.00 $ 229,800.00
Payroll 22,000.00 17,500.00 23,850.00
Marketing 1,250.00 1,250.00 1,400.00
Interest - - -
Overhead 10,000.00 10,500.00 10,750.00
------ ------ ------
Total Operating Disbursements (D) 95,750.00 277,250.00 265,800.00
------ ------ ------
Non-operating disbursements (Calculated)
Current Asset Change - - 7,000.00
Capital Purchases (Specify) - 5,000.00 -
Payments on Line of Credit - - -
Loan Principal Payment - - -
Owner's Withdrawal 6,900.00 - 4,900.00
(negatives add money) ------ ------ ------
Total non-operating disbursements (E) 6,900.00 5,000.00 11,900.00
------ ------ ------
Total cash disbursements (f =D+E) $ 102,650.00 $ 282,250.00 $ 277,700.00
------ ------ ------
Change in cash position (H = C-J) 82,350.00 119,250.00 (47,200.00)
Beginning cash balance (J) 2,117 84,467 203,717

------ ------ ------
Ending cash balance (K = H+J) $ 84,467 $ 203,717 $ 156,517
This basically is looking at cash coming in and cash going out.
Cash coming in
Operating Cash
We can analyze this form in conjunction with the bucket theory. We start with
cash on hand (from the previous period) and will add collections (cash receipts).

Collections differ from sales – it is cash collected at time of sale and any cash
received on your accounts receivable. This takes care of cash receipts on the left
side of the dotted line.
Non-operating cash receipts

In reference to the bucket theory, this relates to cash coming in on the right side
of the dotted line. To the left of the dotted line is operating cash receipts or
disbursements, and to the right of the dotted line is non-operating cash receipts or
disbursements.
But we can create cash from other sources, namely the sale of fixed or intangible
assets and new debt and equity. So, we look to see if we borrowed money on our
lines of credit or from the increase in long-term debt. If we did raise money from
these sources, we put it on the appropriate line.
Now the final way to increase cash is through capital contributions (money from
owners and/or the sale of ownership interests). Any cash generated from
increased ownership is put on this line.
We then add all our increases in cash together.
Cash going out

Again, we delineate between operating disbursement (left of dotted line) and non-
operating disbursements.
Operating disbursements
This area is up to the discretion of the user, but at a minimum I categorize
operating expense:
• Cash spent on purchases (whether for costs of goods, inventory less any
amounts that aren’t paid but are accrued as accounts payable)
• Payroll expenses
• Marketing
• Interest
• Overhead
Note, depreciation and amortization do not require cash. Both those categories
are just accounting entries with no cash implication.
Non-operating disbursements
Now let’s look at the right side of the dotted line. We can use cash to:
• Changes is current assets (like prepaying insurance or taxes)

• Buy new fixed or intangible assets (an example of an intangible asset is
goodwill, you can’t touch it but you paid for it)
• Principal payments on your line of credit
• Principal payments on your long-term debt
• Owners’ withdrawals (or dividends or distributions)
We add up our operating and non-operating disbursements to get our total

disbursements.
The change in cash position is the net difference between cash receipts and cash
disbursements.
If we add the net change in cash to our beginning balance of cash, we end up with
our ending balance.
Think of your check book. You start with a balance. As you make deposits into
your checking account, you add that to your ending balance (a checkbook keeps
a running total) and as you spend money, you subtract that from your ending
balance to come up with your new balance. This is exactly the same thing except
that we aren’t keeping a running balance.
But your books are different than this report and that’s why most people can’t
understand financial statements. So, let’s talk about why cash flow and profit are
not the same thing.

Section 6: Going forward
Once you have your beginning balances in place, we want to estimate activity for
future periods.
Beginning cash: Cash on hand is the same as that from the end of the previous
month. If this is the first time you are using the form, input month 1 beginning
cash. The data comes from your financial statements.
Cash Receipts
Operating Cash Receipts
Estimating sales income requires consideration of many factors: accounts
receivable, past sales history, seasonal variations, expected changes in demand,
probable fluctuations in the supply of goods you require for sales, inflation, the
impact of change in your capacity to produce (new or remodeled facilities, new
personnel, etc.), a new advertising campaign, a competitor who has just gone out
of business, etc. Make a list of all the things that are likely to occur during the
forecast period which could affect your sales (increasing and decreasing).
At this point, estimate the cash collections and collections from accounts
receivable. The amounts should be calculated with reference to your sales
forecast and your expectations concerning the collection of receivables.
For example, if you operate a retail grocery store which does business on a strictly
cash basis, you would simply show the monthly amounts you have forecasted as
cash receipts. If your business is such that accounts receivable delay the receipt
of your sales income by more than a few days, then try to estimate the timing of
your receipts on the collections line. For example, if your customers pay
approximately 45% of the monthly sales in the month of sales and the next month
you receive 35% of the billings and the final 20% comes in the following month,
then your cash flow has to reflect that. (Technically, you should consider an
estimate for bad debt).
Your “aging” of accounts payable and projected receipts might look like this:

Month 1 Month 2 Month 3 Month 4 Month 11 Month 12 Total
Sales 52,334 42,000 30,000 50,423 >>>> 42,000 59,919 600,000
Collected in current period 23,550 18,900 13,500 22,690 >>>> 18,900 26,963 270,000
collected in next period 18,317 14,700 10,500 >>>> 18,196 14,700 189,028
collected in next period 10,467 8,400 >>>> 12,186 10,398 99,616
------ ------ ------ ------ ------ ------ ------
Total Collected 23,550 37,217 38,667 41,590 >>>> 49,282 52,061 558,645
------ ------ ------ ------ ------ ------ ------
Accounts Receivable 28,784 33,567 24,900 33,733 >>>> 33,498 41,355 41,355
As an aside, many business loans are requested for the express purpose of
obtaining working capital which can bridge the gap between bills that must be
paid today and receivables that cannot be collected until a later month. 1
Non-Operating Cash Receipts

Loans or other cash injections: These lines consider other sources of cash for the
business such as proceeds from lines of credit (and other short-term loans) and
proceeds from new long-term debt. Short term debt (loans, lines of credit, etc.)
are funds that are expected to be paid back within the current year. Conversely,
long-term debt is expected to be paid back after the current year is completed.
Capital Contributions: The last source of funds we want you to consider is equity
injections or capital contributions. If you are planning to be contributing money
of your own to the business or raising money from “owners” of the company, put
it on this line.
Make an intelligent guess as to how much money you will receive from cash
injections. If you are planning on borrowing money or raising money through
equity funding, show when you expect to receive those funds.
Create a subtotal for all non-operating cash receipts. Total cash receipts represent
operating plus non-operating cash receipts.
Cash Disbursements
Operating Disbursements
As we said above, just like cash receipts, we have cash disbursements that show
up on the right side of the dotted line that represent operating disbursements and
cash disbursement that show up on the left side of the dotted line which are non-
operating disbursement.
1
See our Executive Summary – Funding Your Business

Purchases represents a hybrid concept that we will discuss in more detail in the
next section. Purchases are somewhat like collections except in reverse. This line
should be completed to reflect all monies you expend to spend during the forecast
period. The amount should be calculated with reference to acquisitions of
inventory and should reflect changes in accounts payable.
As an example, suppose you own a restaurant which is strictly “cash on delivery”.

Then purchases are simply your payments to your vendors. If your business is
such that you can delay payments on your purchases by more than a few days,
then try to estimate the timing of your disbursements. For example, if
approximately 50 percent of your purchases are paid immediately, then purchases
would equal 50 percent of the monthly amounts you project to purchase. The
remaining 50 percent would be put in your accounts payable. Then you will have
to estimate an average payable time. If 30 days is a reasonable period, you would
simply add 50 percent of the current month’s purchases to next month’s cash
purchases and so on. Once again, this calculation could become quite complex.
Payroll: Gross salary and wage expenditures are put on this line. In most cases
we would add related payroll taxes to this line. Some companies even put
employee benefits in this number. Why? In terms of planning, they may want to
see all employee related expenses here. Also, some companies will put executive
compensation here as well. The benefit of putting all payroll related expenses in
one place is to be able to estimate payroll as a fixed percentage of sales and follow
the trends.
Marketing: Here again we separate this category out so that we can determine a
return on our marketing dollar. If marketing dollars are going up as a percent of
sales, we need to challenge our expenditures on marketing.
Interest: Your interest payments for debt on hand or an estimate for loans to be
obtained are on this line. The interest and principal portions of your debt
payments are separated because of income tax considerations. This is also
separated so that you can calculate certain debt ratios and times interest earned
ratios. This is beyond the scope of this book.
Note: there are no provisions for depreciation or amortizations as those are not
real cash outflows. Outflow is when you buy furniture, equipment, fixtures,
building, etc. Inflow is when you sell the assets.
Other overhead: This includes various items such as taxes (other than income
taxes), outside services, repairs and maintenance, auto and truck expense,

accounting and legal, rent, telephone, utilities, insurance, and miscellaneous
expenses.
We then subtotal all operating disbursements.
Non-operating disbursements
Current asset changes include purchases of things like prepaid insurance where
you will “amortize” the premium into operations.
Capital purchases is all planned expenditures for capital assets such as furniture,
fixtures, equipment, machinery, buildings, land, vehicles, etc. See depreciation
and amortization above.
Payments on line of credit are principal payments (not the interest) when you pay
back your line of credit. The next line is for principal payments on your long-
term debt.
Finally, owners’ withdrawals. This line is for payments to the owners that don’t
run through payroll. It is used for distributions to owners (sole proprietorship),
dividends (from corporations) or distributions (from partnerships).
Add all non-operating disbursements. Then total operating and non-operating

disbursements are added together. Subtract total cash disbursements from total
cash receipts to obtain the change in cash position. Obviously, the objective is to
make this positive for every period that you are operational. If you do have
negative changes in cash position, ask yourself is it temporary or not. If it is
temporary, try to see how you can make it positive (more equity, more loans or a
push for more sales). Think about Amazon, they went for years not making a
profit, but they always had positive cash flow.
Also, ask yourself, in the long-run, will cash flow get positive. Obviously, if the
answer is no, then it’s time to limit your losses. Hopefully, the answer is yes, we
will become profitable and solvent.

7
Section : Cash verses Accrual
Accounting
Can you explain why you can have profit of $30,000 and at the same time negative
cash flow of $23,355? In this section, we will answer that question. There are two
reasons:
• Cash Flow and Profit are two different things as shown by the bucket
theory
• There is a huge difference between accounting on a cash basis verses
an accrual basis
Cash flow vs Profit – a practical definition

In running a business, cash is either:
• Coming in
• Going out
• Tied up on the balance sheet
Your job: make sure cash comes in faster than it goes out!
Cash Verses Accrual Accounting

Did you ever wonder why you look at your profit and wonder why your cash
doesn’t equal your profit? Part of it deals with cash verses accrual accounting and
part of it deals with the bucket theory. In this section, our goal is to make it clearer
for you to understand.
We will start with a basic profit and loss statement.

2017
Income vs Cash Flow Income
Revenue 600,000
Purchases -450,000
Salaries (including Owners) -84,000
Marketing Expenses -12,000
Interest -9,600
Other Expenses -14,400
Net Income (before taxes) $30,000
Income Taxes (40%) -12,000
Net Income $18,000
As you can see, you have income of $600,000 and profit (after taxes) of $18,000.
So, naturally, you would think that your cash increased by $18,000.
But herein lies the problem. The main difference between accrual and cash basis
accounting lies in the timing of when revenue and expenses are recognized. The
cash method accounts for revenue only when the money is received (money
comes in) and for expenses only when the money is paid out (when money goes
out). On the other hand, the accrual method accounts for revenue when it is earned
and expenses goods and services when they are incurred. The revenue is recorded
even if cash has not been received or if expenses have been incurred but no cash
has been paid. Accrual accounting is the most common method used by
businesses. But, like everything else, it can be misleading.
So, now let’s look at what happens when you don’t collect on all your revenue.
This happens when you extend credit to your customers. Assume that, at the end
of the year, you have $41,355 in receivables. Your cash flow is diminished to a
negative $23,355.

2017 2017
Income vs Cash Flow Income Cash Flow
Revenue 600,000 600,000
Purchases -450,000 -450,000
Salaries (including Owners) -84,000 -84,000
Marketing Expenses -12,000 -12,000
Interest -9,600 -9,600
Other Expenses -14,400 -14,400
Net Income (before taxes) $30,000 $30,000
Income Taxes (40%) -12,000 -12,000
Net Income $18,000 $18,000
Uncollected Revenue -41,355
Loan Principal Payments
Net Cash Flow $18,000 ($23,355)
To make matters worse, in this cash you could be paying taxes on the “earnings”
of the company, but you have negative cash flow. This is why some taxpayers
keep their books on an “accrual basis” and pay taxes on a “cash basis”. Remember
when we talked about cash flow either coming in or going out or tied up in your
balance sheet? This is one example of cash being tied up in your balance sheet –
in this case, accounts receivable.
Now, look at the effect of principal payments on a loan. These expenditures are
tied up on your balance sheet as well. Suppose that we decreased our line of credit
by $9,600. The reduction of the principal amount of a loan doesn’t affect income
but it does affect cash flow.
2017 2017 2017

Income vs Cash Flow Income Cash Flow Cash Flow
Revenue 600,000 600,000 600,000
Purchases -450,000 -450,000 -450,000
Salaries (including Owners) -84,000 -84,000 -84,000
Marketing Expenses -12,000 -12,000 -12,000
Interest -9,600 -9,600 -9,600
Other Expenses -14,400 -14,400 -14,400
Net Income (before taxes) $30,000 $30,000 $30,000
Income Taxes (40%) -12,000 -12,000 -12,000
Net Income $18,000 $18,000 $18,000
Uncollected Revenue -41,355 -41,355
Loan Principal Payments -9,600
Net Cash Flow $18,000 ($23,355) ($32,955)

Converting Financial information to Cash Flow Information
If you are brave enough to continue on, let’s look at the relationship between
accounts receivable and sales. Actual cash collections can be computed as
follows:
Let’s say it is our first month in business and our income statement shows sales
of $60,000 but our accounts receivable are $10,000. That means we didn’t collect
$10,000 of the $60,000 so our actual cash collections were $50,000.
Sales Month 1
Revenue 60,000
+ Beginning A/R 0
- Ending A/R 10,000
Actual Collections: 50,000
Now go into month 2. Assume that we show another $60,000 in sales but our
accounts receivable went from $10,000 to $12,000. In this cash we collected
$58,000.
Sales Month 1 Month 2

Revenue 60,000 60,000
+ Beginning A/R 0 10,000
- Ending A/R 10,000 12,000
Actual Collections: 50,000 58,000
You should see the interrelationship between sales and collections.
By the way, this gets increasingly complex when you use an “allowance for
doubtful accounts”. This is where accountants can manage your profits and losses
as these are journal entries representing “estimates” and not actual cash flows.
You will find there are a slew of these types of entries that accountants can use as
you gain more understanding of financial statements.
Working with inventory is even harder. You have costs of goods sold and
inventory which are related. Let’s say that your costs of goods sold are $45,000
and you must buy $10,000 of inventory. Then your total Purchases are $55,000.

Sales Month 1
Costs of Sales 45,000
- Beginning Inventory 0
+ Ending Inventory 10,000
Actual Purchases: 55,000
Your gross PROFIT is $15,000 ($60,000 in sales less $45,000 in costs of sales)
but your NET CASH FLOW is NEGATIVE $5,000 ($50,000 in collections less
$55,000 in purchases). See how cash and profit are not the same and profit is
totally misleading. Also, you MUST look at the interrelationship between the
income statement and cash flow.
Now let’s look at month two. This starts to get really interesting. Costs of sales
are still $45.000 but inventory decreased by $2,000. That means that you used
existing inventory to finance sales. In this case, out of pocket costs are $47.000.
Again, net cash in for the month is $58,000 and net cash out was $47,000 so we
increase cash position by $11,000. Phew!

Costs of Sales 45,000 45,000
- Beginning Inventory 0 10,000
+ Ending Inventory 10,000 8,000
Actual Purchases: 55,000 47,000
You can see that profit and cash are usually NOT the same. How many of you
have filed your tax returns and your CPA has said that you made a lot of money
and you owe taxes and you look at your accountant incredulously and say, “If I
made that much money, where’s the cash?” The answer is that accounting is a
system that truly doesn’t have your interests as an owner at heart. Now, I haven’t
gone into the accounting tricks like obsolete inventory.
Now let’s take inventory one step further and add accounts payable. In order to
make this easy, Assume that operating expenses (salaries, taxes, rent, etc.) are
paid when incurred. So now let’s say in month 1, of the $55,000 in purchases, we
don’t pay for $5,000 but accrue them as payables. In this case, purchases are

reduced by the $5,000 that our creditors are “carrying” for us. Thus, out of pocket
is now $50,000, which exactly matches cash collections of $50,000. Once again,
we aren’t in a negative position.
Sales Month 1
Costs of Sales 45,000
- Beginning Inventory 0
+ Ending Inventory 10,000
Actual Purchases: 55,000
+ Beginning A/P 0
- Ending A/P 5,000
=Actual Cash Purchases 50,000
But in month two, we end up paying a net $2,000 on our accounts payable. Now
we’ve spent $49,000 instead of $47.000 and our net for the month is $9,000.

Costs of Sales 45,000 45,000
- Beginning Inventory 0 10,000
+ Ending Inventory 10,000 8,000
Actual Purchases: 55,000 47,000
+ Beginning A/P 0 5,000
- Ending A/P 5,000 3,000
=Actual Cash Purchases 50,000 49,000
You are beginning to see that cash flow and profit almost NEVER are the same
number.
Conclusion
As we said in the beginning, our goal is to equip you with tools and strategies to
generate immediate cash flow, increase profits and help you make more money
than you’ve ever made before. This brief document is just a sample. In our next
book, we show you how to track actual cash flow.
But, here’s the hard truth: There is no magic bullet. Big changes in your company
are the result of a series of small changes, not through a catastrophic event or
drastic shifts.
We can tell you exactly what to do and how to do it, but the rest is up to
you. Knowledge without application is totally worthless. If you don’t apply this

knowledge, then it won’t get done and you won’t see any change in your business
or lifestyle. Start applying the knowledge you gained in this document today.
If you have questions, need help or want more information, let us know. We invite
you to call us at 303-221-0823 or visit us at CashFlowEngineering.com.
Section 8: Conclusion
The Cash Cycle
The reason growth can cause cash flow problems
finds its foundation in the cash flow cycle. In
most businesses, you have to spend money to
make money. As an example, a typical enterprise
purchases inventory, then converts that inventory
into cash or accounts receivable via sales, collects
those accounts receivable, and pays suppliers
who extended trade credit. That being said, the
faster you turn over your inventory and collect on
your accounts receivable, and the slower you pay your suppliers, the better your
cash flow.
The Cash Gap. Unfortunately, the level of trade credit is rarely sufficient to cover
both the company's cash flow cycle and its normal operating expenses. As a result,
additional financing may be needed.
Why focus on cash?

Let’s revisit the question, “Why are we in business?” Although their business is
probably different than your business, there is one common frustration between
your business and theirs…where’s the cash? In order to succeed, you must plan
for the cash gap.
Your goal is to drive positive cash flow over the short term, the intermediate term
and the long term.
How much cash should you have? The amount of the cash balance depends on:
• The state of the economy
• Rate of return that can be earned on invested cash
• Uncertainty associated with cash flows
• Length of the planning period (short term vs. long term)

• How long funds are needed
• Compensating balances required by the bank
• Ability to borrow on short notice
• Likelihood of sudden, unexpected developments
What are the consequences of not enough cash? To name a few:

• Negative impact on your credit rating
• Loss of a cash discount or incurring late fees
• Inability to make a bargain purchase
• Fees charged on premature liquidation of investments
• Cost in terms of even higher interest rates
• The need to sell assets to derive cash.
There are three critical mandates for cash flow:

• First, commit to understanding that cash flow is literally the blood in
your company’s veins. It’s how you survive in the short term. But it’s
also how you thrive. It’s a lot easier to hire or buy new equipment or
take on new jobs when you have $40 thousand in the bank instead of
$400.
• Second, you need to manage cash flow and profits, not just pocket
them. That’s how you survive in the long term.
• And third, truly successful businesses consistently generate cash and
consistently keep cash. This is how you create a business with value.
And when it’s time to sell your company, that consistency is what
buyers are looking for.
Bottom Line: To be a success, you must know how to collect, track, save, and
spend the cash you earn. You track your cash flow through the tools we taught
you in this book.

Get to the Next Level
Isn’t it time to implement a system that will help you and your company get to the
next level? Does every day in your business feel like running on a treadmill? You
are getting a lot of exercise but you aren’t getting anywhere. If that’s what you
feel like, it is time to stop being a slave to your business! Stop doing the same
thing day-in and day-out! Get control of your business and change its direction
so that it is working for you.
Our goal is to provide you with easy-to-use workbooks and guidelines so that you
can visualize what you want to accomplish and provide a method for you to meet
your goals. We believe that you should try to do this on your own and then if you
need to, call for assistance. After all, knowledge without application is totally
worthless.
Want to know more or purchase any of our courses and/or forms? We provide our
materials at three levels: basic, intermediate and advanced. In addition, we also
have the consultant’s edition.
Contact us at:
info@CashFlowEngineering.com
p. 303-221-0823
jkprager@CashFlowEngineering.com
Call, leave a message or email us.

303-221-0823
info@CashFlowEngineering.com
www.CashFlowEngineering.com

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Forecasting Cash Flow

Understanding What Drives

By Jeffrey Kenneth Prager

Printed in USA by Cash Flow Engineering, LLC

Disclaimer and/or legal notices: This publication is designed to provide

Page 2 © 2018 Jeffrey Kenneth Prager, all rights reserved

He is also the author of two books published by

In addition, he self-published The Peddler’s Son.

Page 3 © 2018 Jeffrey Kenneth Prager, all rights reserved

Q: What is the number one objective of a business owner?

The #1 Objective of a business owner is to drive consistent, predictable and

Why businesses fail

Page 4 © 2018 Jeffrey Kenneth Prager, all rights reserved

Page 5 © 2018 Jeffrey Kenneth Prager, all rights reserved

Arithmophobia. Numbers are the language of business. Our experience tells us

Page 6 © 2018 Jeffrey Kenneth Prager, all rights reserved

We’ve seen instant increases in performance just by showing business owners

Page 7 © 2018 Jeffrey Kenneth Prager, all rights reserved

Page 8 © 2018 Jeffrey Kenneth Prager, all rights reserved

Page 9 © 2018 Jeffrey Kenneth Prager, all rights reserved

Page 10 © 2018 Jeffrey Kenneth Prager, all rights reserved

Page 11 © 2018 Jeffrey Kenneth Prager, all rights reserved

Period 1 Period 2 Period 3 Period 4

Page 12 © 2018 Jeffrey Kenneth Prager, all rights reserved

We capture this information on the following worksheet:

The Bucket Theory 1/31/2018 2/28/2018 3/31/2018

Non-operating cash receipts (calculated)

Beginning cash balance (J) 2,117 84,467 203,717

This basically is looking at cash coming in and cash going out.

Page 13 © 2018 Jeffrey Kenneth Prager, all rights reserved

Non-operating cash receipts

We then add all our increases in cash together.

Cash going out

Page 14 © 2018 Jeffrey Kenneth Prager, all rights reserved

We add up our operating and non-operating disbursements to get our total

Page 15 © 2018 Jeffrey Kenneth Prager, all rights reserved

Page 16 © 2018 Jeffrey Kenneth Prager, all rights reserved

Non-Operating Cash Receipts

Page 17 © 2018 Jeffrey Kenneth Prager, all rights reserved

As an example, suppose you own a restaurant which is strictly “cash on delivery”.

Page 18 © 2018 Jeffrey Kenneth Prager, all rights reserved

We then subtotal all operating disbursements.

Add all non-operating disbursements. Then total operating and non-operating

Page 19 © 2018 Jeffrey Kenneth Prager, all rights reserved

Cash flow vs Profit – a practical definition

Cash Verses Accrual Accounting

We will start with a basic profit and loss statement.

Page 20 © 2018 Jeffrey Kenneth Prager, all rights reserved

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2017 2017 2017

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Sales Month 1 Month 2

You should see the interrelationship between sales and collections.

Page 23 © 2018 Jeffrey Kenneth Prager, all rights reserved

Sales Month 1 Month 2

Page 24 © 2018 Jeffrey Kenneth Prager, all rights reserved

Sales Month 1 Month 2

Page 25 © 2018 Jeffrey Kenneth Prager, all rights reserved

Why focus on cash?

Page 26 © 2018 Jeffrey Kenneth Prager, all rights reserved

What are the consequences of not enough cash? To name a few:

There are three critical mandates for cash flow:

Page 27 © 2018 Jeffrey Kenneth Prager, all rights reserved