Liquidity Planning

Definition of

Cash flow planning is an important tool for managing a company’s incoming and outgoing cash flows. It tracks all expected revenues and expenses over a medium- to long-term time horizon. In this way, it ensures a company’s solvency and, consequently, its economic viability. The results of liquidity planning make it possible to take early action to protect the company from financial difficulties. However, this can only happen if the liquidity plan is constantly updated.‍

Why is it important to create a liquidity plan?‍

The goal of liquidity planning is to forecast a company’s expected cash and cash equivalents. It influences all business decision-making processes, such as investments or workforce planning. If difficulties are identified, the company can take action to prevent any potential solvency issues.

If liquidity planning is not taken seriously, problems usually arise. First, late-payment fees may be imposed. Next, suppliers may begin to offer their goods only against advance payment. This, in turn, leads to further liquidity constraints and can mean the end of the business relationship. If a company runs out of liquidity, it can slide into insolvency—even with a strong order book. After all, even the best future profits are of no use if liabilities due in the present cannot be paid on time.‍

How do you create a liquidity plan?‍

To determine a company’s liquidity, its expected revenues and expenses for the selected planning period must be estimated. This can be done on a monthly, quarterly, or annual basis. To actually create the plan, sources of revenue—such as sales or loans—as well as expected expenses for the selected period must be listed. When it comes to expenses, in addition to fixed costs such as rent, salaries, or insurance, variable costs such as commissions or liabilities must also be taken into account. A simple table in which revenue and expenses are sorted by date and amount is sufficient for this purpose. This provides a clear picture of when and how much money the company needs and receives.