A cash flow forecast for loan approval is an essential financial tool that projects the expected cash coming into and going out of your business over a specified period, usually 12 to 24 months. Lenders rely on this forecast to evaluate your business’s ability to repay the proposed loan by ensuring sufficient cash flows to cover all expenses and debt obligations.
Why Lenders Require a Cash Flow Forecast
When applying for a business loan, lenders want a clear picture of your business’s financial future. Unlike profit, which measures earnings on paper, a cash flow forecast shows the actual movement of cash—highlighting your liquidity and repayment capacity.
Key reasons lenders need this forecast include:
- Assessing Repayment Ability: Ensuring your projected cash inflows consistently exceed outflows, leaving sufficient funds to cover loan payments.
- Evaluating Liquidity: Confirming you have enough liquid assets to meet short-term obligations like payroll, rent, and supplier payments.
- Identifying Cash Shortages: Spotting potential months with negative cash flow to proactively manage funding gaps.
- Demonstrating Financial Management: Showing lenders you understand your business finances deeply through a realistic, well-documented forecast.
How to Prepare a Cash Flow Forecast for Loan Approval
The forecast breaks down into several sections:
- Starting Cash Balance: The cash amount your business holds at the beginning of the forecast period.
- Cash Inflows: Expected cash from sales revenue, collections from customers, and other income sources like asset sales or interest.
- Cash Outflows: Operating costs such as rent, salaries, utilities, cost of goods sold, debt repayments, capital expenditures, and estimated taxes.
- Net Cash Flow: The difference between cash inflows and outflows for each month.
- Ending Cash Balance: Starting cash plus net cash flow, carried forward to the next month.
Lenders especially focus on maintaining a positive ending cash balance and a strong debt service coverage ratio—meaning ample cash remains after covering expenses to comfortably pay your loan.
Practical Example
Consider Sarah’s Sweet Treats, a bakery seeking a $50,000 loan. Her 12-month forecast projects steady sales growth and carefully estimated costs, showing positive net cash flows and increasing ending cash balances each month. This reassures her lender she can afford new loan payments while maintaining healthy operations.
Tips for an Effective Forecast
- Use historical data and realistic assumptions.
- Break down expenses into detailed categories.
- Account for seasonal sales fluctuations.
- Include all cash inflows and planned outflows.
- Build in a buffer for unexpected costs.
- Regularly update and review the forecast.
- Be ready to explain your assumptions to lenders.
Common Pitfalls to Avoid
- Confusing cash flow with profit.
- Including non-cash expenses like depreciation.
- Overlooking irregular large expenses.
- Forgetting to factor in loan repayments post-approval.
- Lacking supporting documents for sales or expenses.
For further reading, see FinHelp’s Business Debt Schedule to better organize your debts in forecasts. Also, review our Loan Approval Conditions for what lenders look for beyond cash flow.
Sources:
- U.S. Small Business Administration: Financial Statements
- Investopedia: Cash Flow Forecast
- NerdWallet: How to Get a Small-Business Loan
This transparent and accurate cash flow forecast strengthens your loan application by showing lenders that your business finances are under control and you have a clear plan to meet loan obligations safely.