Direct vs. indirect cash forecasting: when to use each

Ask two finance leaders what a cash forecast is and you may get two different answers. One means a weekly schedule of receipts and payments. The other means a projected cash flow statement built from the budget. Both are right; they answer different questions.

The direct method

A direct forecast projects actual cash movements: customer receipts, vendor payments, payroll, taxes and financing. It is precise in the short term, typically up to 13 weeks, because each line can be traced to a transaction or schedule. It is what treasury uses to decide whether to draw on a revolver or invest surplus cash.

The indirect method

An indirect forecast starts from projected net income and adjusts for non-cash items and changes in working capital. It is the natural output of an FP&A model and is better suited to horizons of six months to three years, where individual invoices don't exist yet.

Making them agree

The useful exercise is reconciling the two where they overlap. If the direct forecast for the quarter shows $4M less cash than the indirect model implies, the gap is almost always in working capital assumptions: customers paying slower than budget, or inventory building faster. Finding that gap early is the point of running both.