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How to Forecast Accounts Receivable in 3 Simple Steps

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Forecasting accounts receivable is a great starting place when building out your cash management process. 

In this guide we’ll give a brief overview of forecasting accounts receivable, how it helps, and how you can get started with a method called Days Sales Outstanding (DSO).

After that we’ll touch on why forecasting accounts receivable should be just one part of your cash management process

On the agenda:

What is Accounts Receivable (AR) Forecasting?

Forecasting your accounts receivable is a crucial part of cash management. It involves tracking past and future receivable payments. By looking at how clients have paid in the past you’ll be able to make predictions about when you will be paid in the future. 

Why Should You Forecast Accounts Receivable?

Managing cash flow is essential for businesses to plan for the future. Accounts receivable are a key part of your cash flow that will likely take up a large part of your cash inflows.

Ultimately, forecasting will give you more confidence surrounding your cash position allowing you to make more confident business decisions. 

Understanding your cash position is important for all businesses, but even more crucial for small and venture-capital backed businesses, as well as those with uneven or seasonal cash flows. 

Forecasting Accounts Receivable

There are many ways to manually calculate or use technology to forecast receivables, allowing you to create very simple or rigorous estimates.  

Below we’ll show how you can forecast your accounts receivable with a method called Days Sales Outstanding (DSO). 

Further down we’ll touch on some of the tech you can use to automate and improve the accuracy of your AR forecasting. 

Step 1: Create a Sales Forecast

The method we are using to forecast receivables requires that we first have a sales forecast complete.

 A simple way to create a sales forecast is by looking at your historical sales and talking to your sales and marketing teams (if you have them).

It’s likely that your sales will be roughly the same as they were at the same time last year. Of course, you, or your sales & marketing team, may have information that says this is unlikely. 

You can learn more about different sales forecasting methods here

Step 2 (below) assumes you have created a sales forecast already, but if you haven't - no worries. You can follow along with our example to see how it's done nonetheless. 

Step 2: Calculating Days Sales Outstanding

Days Sales Outstanding (DSO) is a measure of how long a company takes to collect payment on average. It can be calculated for any time period but is commonly done on a monthly, quarterly, or yearly basis. 

DSO formula: 

DSO = (Accounts Receivable / Total Credit Sales) x Number of Days in the Period

To calculate DSO total your accounts receivable and divide them by your total credit sales made in a period. Then multiply by the number of days in the period. This will tell you on average how long it takes for a company to collect payment from credit sales. 

The higher DSO is the longer a company is taking to collect payment. 

The lower DSO is the quicker a company is collecting payment. 

Typical DSO values vary but generally fall between 30-60 days. A DSO of greater than 60 days usually means a company is struggling to collect payments. 

Example: Calculating Days Sales Outstanding

Let’s say for a particular company:

  • Accounts Receivable Balance = $80,000
  • Total credit Sales over the past year = $400,000
  • 1 year = 365 days = Number of Days in the Period

*In this example we are using a year but you could use whatever period you like

Recalling our formula, and punching these numbers in gives us:

DSO = (Accounts Receivable / Total Credit Sales) x Number of Days in the Period

DSO = ($80,0000/$400,000) * 365 days

DSO = 73 Days

This particular company has a DSO of 73 days suggesting that they are struggling to collect payments. 

Step 3: Accounts Receivable Forecast

Using our DSO and Sales Forecast data we can now forecast our accounts receivable: 

Now that we have calculated our DSO we can forecast our accounts receivable. For this example we are going to assume that in this company's sale forecast they are predicting sales of $425,000.

Below is the formula for our accounts receivable forecast: 

Accounts Receivable Forecast = Days Sales Outstanding x (Sales Forecast / Time Period)

AR Forecast = 73 days x ($425,000/365 days)

AR Forecast = $85,000

So what does this mean?

We saw earlier that the DSO for this company was 73 Days, and that last year they had $400,000 in sales. It looks like they are modestly optimistic about sales this year and predict sales of $425,000. 

Using this information we find that their AR forecast for next year is $85,000 compared to 80,000 last year.

Instead of guessing, this company now has an accounts receivable forecast based on their historical data, and information from their sales and marketing teams. 

It's important to note that this method is NOT a crystal ball. Be aware of how specific clients usually pay and adapt your forecast as new challenges and opportunities arise. 

Tools for Forecasting Accounts Receivable 

There are many available tools out there to help you automate, speed up and improve the accuracy of your accounts receivable. 

Instead of looking solely for an accounts receivables forecasting tool, we recommend using a cash flow forecasting app.

You may remember earlier we mentioned how AR forecasting is just one important part of the cash management process, likely representing a large portion of your cash inflows.

But, there’s also all your outflows (like accounts payable) and future events and plans to consider when estimating how much cash you’ll have available. 

Sophisticated cash flow forecasting software will include advanced calculations for forecasting accounts receivable while also providing a more complete picture of your cash position.

For example, Helm analyzes each individual client's historical data to see how they have paid in the past to make predictions on how they will pay in the future, while also providing comprehensive cash management. 

Below we’ve included some of the top apps/software out there but feel free to experiment and find the solution that is right for you! Most forecasting tools come with some form of free trial letting you decide what best meets your needs. 

AR/Cash Flow Forecasting Apps 


Fathom

"All-in-one reporting, analysis & forecasting

Fathom combines insightful reporting, fast cash flow forecasting and actionable financial insights into one refreshingly easy business management solution."

Cash Flow Tool

"Management & forecasting service

Instantly know your cash flow today and tomorrow."

Helm Cash Flow

"Make confident business decisions with numbers you can trust

Helm lets you see your future cash position in real-time, so you can make confident business decisions without wasting hours planning in spreadsheets."

Jirav 

"The growth focused planning solution

Finally a purpose built all-in-one FP&A solution, unlocked by the power of driver based financial modeling"

Float 

"Cash flow forecasting and scenario planning

Get a real-time, visual view of your cash flow and make more confident decisions about the future of your business"

Start Forecasting 

If you’d like to see how Helm can improve your cash management watch the clip below or book a meeting here to speak with an advisor. We’re happy to show you around, and answer any questions you have! 

 

Looking for more resources on the cash forecasting process? Check out more resources in our blog.