Definition: What is liquidity planning?

Liquidity planning is about staying in control of your cash. By analyzing all your expected cash inflows and outflows over a chosen period, you gain a clear picture of your financial health. You’ll know when you’re cash-rich, when you might need extra capital, and where you can smooth out bumps by reallocating resources. In short, it’s a snapshot of your liquidity – your financial lifeline. 

Whether you choose to plan weekly, monthly, quarterly, or annually depends on your company's unique financial situation. The more challenging your financial landscape, the more frequently you should revisit your liquidity plan. Regular review is key to staying ahead.

Liquidity planning is part of your overall financial planning, which is included in the business plan.

Financial solvency is the main goal

Ensuring the company’s solvency and avoiding liquidity bottlenecks are essential to maintaining financial health. This makes liquidity planning a vital part of your overall cash management strategy. Liquidity management is typically short-term (less than 12 months) and requires continuous adjustment.

Liquidity planning is not about maximizing the use of your funds but ensuring you have the cash available when needed.

A strong liquidity plan answers three critical questions:

1. How much money comes in? 
2. How much money goes out? 
3. How much money is available in a certain period?

Effective liquidity planning ensures that a company is always in a position to pay its bills and make investments. This is particularly important in times of economic uncertainty or unexpected expenditure.

Side note: What is liquidity?

Liquidity, rooted in the Latin word liquidus, means more than just liquid assets – it's the lifeblood of your business. At its core, liquidity refers to a company's ability to meet its financial obligations promptly, using readily available funds like cash or bank balances. A company with strong liquidity can confidently pay its bills, manage its capital needs, and strategically plan for the future. 

Knowing your liquidity needs isn't just smart, it's essential. It ensures that you have the right amount of capital when you need it most.

A solid liquidity position is a powerful signal to banks and lenders, enhancing your ability to secure loans and grow your business.

Goals of liquidity planning

Liquidity management is one of the most important tasks of a company. You shouldn't leave it to chance. If you are no longer liquid and cannot pay bills in the present, there is a risk of insolvency – no matter how promising the future may look. 

To avoid such critical situations, liquidity management is a necessity. The main goals of the liquidity plan are therefore:

• Securing the company's liquidity: ensuring that the company is solvent at all times.
• Optimising the use of capital: efficient use of available financial resources to achieve maximum returns.
• Preparing for financial challenges: identifying and planning for potential financial risks and shortfalls.

Your finance team’s mission is clear: keep liquid funds accessible and minimize financial risks. With careful liquidity planning, your company remains solvent and resilient, ready to thrive in any financial climate.

Advantages of liquidity planning

Well considered liquidity planning offers numerous advantages:

• Improved financial control: by analysing your liquidity, you have a better overview of your financial resources and can manage them more efficiently.
• Increased planning security: you can plan your financial obligations better and avoid unforeseen bottlenecks.
• Improved creditworthiness: solid liquidity planning improves your company's creditworthiness and facilitates access to financing.
• Recognise risks at an early stage: you can identify potential financial risks at an early stage and take appropriate measures to minimise them.

Liquidity planning involves inherent uncertainties. It’s a forecast, not a guarantee. That’s why constant review and adjustment are essential.

Regularly compare your planned figures against actual results. This lets you identify where you’ve deviated and where your assumptions were spot on. Such comparisons are invaluable for refining your next round of planning and enhancing your liquidity forecasts. Step by step, you’ll build a more accurate and reliable liquidity plan.

With re:cap Insights you can dive deeper into your cash management with plan vs. actuals. It’s crucial to assess how well your business plan aligns with your real-time progress. You can evaluate whether your business unfolds as anticipated. It gives you insights if your assumptions hold up, where your business is heading, or if you need to adjust things.

Liquidity plan: what figures do you need for liquidity planning?

The liquidity plan is a crucial component of financial management that details all expected cash inflows and outflows within a company. It plays a key role in ensuring that the company maintains sufficient liquidity to meet its obligations and operate smoothly. Two primary factors are essential in creating an effective liquidity plan:

Amount of cash flows

This includes both the magnitude of expected cash inflows and outflows. Accurate estimation of these amounts helps in understanding the financial position of the company and ensures that there are adequate funds available to meet upcoming expenses.

Timing of cash flows 

The timing of cash flows is just as crucial as the amounts themselves for liquidity planning. Knowing precisely when cash will be received and when payments are due empowers a company to manage its cash balance effectively. This proactive approach prevents liquidity shortfalls or surpluses that could disrupt business operations.

The primary source of cash inflows is revenue generated from the sale of goods or services. This is the most significant contributor to liquidity and is a key focus in the liquidity plan.

Additional cash inflows can come from taking on new debt, such as loans or credit lines. While these funds provide immediate liquidity, they also commit the company to future repayments. Raising capital through issuing new shares or equity instruments can also enhance liquidity, particularly for growth or investment purposes, without the immediate burden of debt.

Effective liquidity management focuses strictly on actual cash flows – what comes in and what goes out.

Non-cash expenses like depreciation and amortization are excluded since they don’t affect the company’s immediate cash position.

Let's take a closer look at the incoming and outgoing payments and which items are included.

Liquidity planning: incoming payments

In the liquidity plan, cash inflows include all cash inflows that a company expects. This includes:

• Cash and cash equivalents: all liquid funds that are available to you.
• Revenue: income from the sale of products or services.
• Loans: capital that is available through lending. This is usually debt capital.
• Investments: capital inflows from investments by shareholders or external investors (such as venture capital). This is usually equity capital.
• Other income: additional sources of income such as rental income or sale of assets.

Liquidity planning: outgoing payments

In the liquidity plan, cash outflows include all cash outflows that a company expects. These include:

• Operating expenses: Operating costs such as material costs, energy costs, leasing costs, travel costs or administrative expenses.
• Salaries: Wage and salary payments to employees.
• Personnel costs: Social security and income tax.
• Rents: Rent payments for office space or other business premises.
• Interest payments: Interest expenses for loans taken out.
• Taxes: Tax payments (VAT, trade and income tax) to government authorities.

Building a liquidity plan

A liquidity plan has a simple structure. It follows a typical pattern:

Example of liquidity planning

To bring the concept of liquidity planning to life, here’s a detailed example of a liquidity plan in action. We’ll examine how a company strategically plans for the next two quarters.

This suggests that the company may face liquidity challenges in March, primarily due to tax repayments. To mitigate this, the company can take proactive steps such as reallocating revenue streams or cutting operating expenses.

Structure of liquidity planning

For many companies, liquidity planning is typically a short-term focus, continually adjusted to meet immediate needs. However, this approach can differ based on the company's size and history.

Established, larger companies with extensive operational histories can extend their liquidity planning to several years. Their experience with cash flow – both incoming and outgoing – allows for more strategic, long-term planning. Nevertheless, they too must remain vigilant and make ongoing adjustments as circumstances evolve.

Short-term planning (monthly)

To avoid short-term liquidity issues, detailed monthly planning is essential. Regularly monitor your daily and weekly cash flows to maintain consistent solvency. This proactive approach with cash flow planning will help ensure you stay financially secure at all times.

Medium-term planning (up to 1 year)

Medium-term planning allows you to strategize on a quarterly basis, optimizing resource allocation. This approach helps companies manage their financial commitments and investments more effectively while remaining agile to adjust strategies in response to unforeseen changes. This flexibility is especially crucial for young companies and startups, which often face unpredictable challenges.

Long-term planning (more than 1 year)

This strategic planning focuses on driving sustainable growth and securing long-term investments. To achieve your future goals, it's essential to assess both your capital needs and emerging investment opportunities.

Special aspect: timing in the liquidity plan

When you begin developing your liquidity plan, you'll quickly discover that achieving perfect accuracy is nearly impossible. Liquidity planning relies on assumptions and is inherently subject to uncertainties. The precision of your liquidity plan improves with the accuracy of your forecasts for both incoming and outgoing payments.

The discrepancy between your liquidity plan and your future bank statements often stems from the timing of deposits and withdrawals. For instance, whether a customer's payment term is 30 days or 90 days can significantly affect your liquidity. Additionally, companies may experience delays of weeks before receiving payment for their services, which can further impact their cash flow.

Secure liquidity with these 9 tips

Maintaining liquidity is crucial for a company's survival. Effective liquidity planning is key to ensuring financial stability. Here are 9 essential tips to help you secure adequate liquidity and enhance your liquidity strategy:

1. Check and adjust your liquidity plan regularly

To keep your liquidity plan aligned with current financial conditions, make it a habit to review and update it regularly. You can use a cash flow analysis to do this.

2. Use liquidity management software

Utilizing specialized cash management software can simplify the creation and monitoring of your liquidity plan. With re:cap Insights, you gain access to a forecasting tool that empower you to develop and continuously refine your liquidity strategy with ease.

3. Monitor cash flows

To maintain financial stability, it is crucial to meticulously monitor and analyze both incoming and outgoing payments. Early detection of potential bottlenecks can prevent larger issues down the line. Effective control over all payments and outstanding items is essential to ensure you remain solvent and avoid financial setbacks.

4. Effective dunning

Late or missed payments can jeopardize your cash flow. Implementing a robust dunning process is essential for effectively managing and collecting outstanding receivables.

5. Use factoring

Streamline your cash flow by leveraging factoring to eliminate outstanding receivables. With this efficient financing method, you transfer your receivables to a factor, who provides you with immediate capital and liquidity. The factor then manages the collection process directly with your customers, handling outstanding invoices on your behalf. This approach not only simplifies your accounts receivable but also accelerates your access to cash, enhancing your overall financial stability.

6. Keep an eye on tax refunds

Tax refunds can disrupt your liquidity planning when you least expect it. An unexpectedly high repayment can become a significant issue, particularly if the advance payment was insufficient. While it's a good sign that your business is thriving with higher-than-expected revenue, it’s crucial not to be caught off guard. To mitigate potential repayment challenges, maintain a portion of your revenue in reserve. This proactive approach ensures your business remains resilient and adaptable.

7. Plan for flexibility

Tax refunds aren’t the only surprise expenses you might face. Unexpected costs can also arise from machinery and equipment repairs. To stay ahead, it's essential to remain flexible and plan a cash buffer to handle these unforeseen expenses smoothly.

8. As low as possible, as high as necessary

Liquidity planning needs vary depending on the business model. For smaller companies or self-employed professionals, high liquidity is often less advantageous. Their liquidity requirements are typically modest, and excessive liquidity can even hinder their financial efficiency.

Conversely, large companies with extensive operations – such as numerous employees, machinery, or a fleet of vehicles – require greater liquidity. The goal is to maintain liquidity at a level that is as low as possible while still meeting essential needs.

9. Diversify sources of revenue

To safeguard against unexpected revenue fluctuations, it's crucial to diversify your income sources. By reducing reliance on a single product or service, you’ll enhance your financial stability and resilience.

Conclusion: liquidity planning

Liquidity planning is a cornerstone of effective business management. It provides a clear view of your future solvency, helping you navigate your financial landscape with confidence.

At its core, liquidity planning is straightforward: track all incoming and outgoing payments, then reconcile them to understand your cash flow. Accurate knowledge of both the amount and timing of these flows is essential. By mastering this, you enhance financial control and mitigate the risk of insolvency.