Forecasting isn’t just for the weather. As part of the budgeting process, forecasting in business is a valuable tool for making informed decisions.
When forecasting, accounting teams can use financial data from previous years to:
- Try to determine future trends
- Figure out how to allocate budget funds
- Anticipate revenues and expenses
Just as meteorologists may not always predict the weather thanks to unpredictable weather patterns, there could be times that forecasting in business might not be completely accurate because of some unanticipated variables. Other times, it might be very accurate. It’s predictive, but not an exact science.
“Forecasting is important in business as it puts some methods into the plan backed by data and reasonable assumptions. Although many owners/managers have a gut feel as to what is going to happen in business, it is much better to have facts behind those feelings!” explains Finatics VCFO Kerry Foster.
“Bankers and investors — or other users of the forecasts — are going to be much more satisfied when there is a method behind the numbers.”
There are a few approaches to forecasting and they are based on either:
- Qualitative models, which rely on opinions (i.e., market research or the Delphi method of asking certain field experts their opinions).
- Quantitative models, which use data for analysis.
Whether you use a qualitative or a quantitative model for forecasting in business, there are certain steps to the process. These typically include:
- Choosing a problem or data point to explore. For example, this could be predicting sales during a certain period like summer.
- Identifying the variables that need to be considered and then collecting the relevant data. For example, compiling the profits generated from sales in the previous five years by month.
- Making assumptions. The accounting team will simplify the process to narrow the time and data required for forecasting. For example, looking at the profits generated from sales during July and August.
- Choosing a forecasting model. There are several different options for financial models. Certain types suit particular sets of data, variables and assumptions and vary by the complexity of the business. The initial forecast should start off simple and may add complexity as the data, variables and assumptions grow. It is important to remember the purpose of the forecast, the resources available, and the data available to ensure time is spent wisely.
- Developing Key Performance Indicators (KPIs) or Metrics. These are important tools to measure the success of the organization and not all of the KPIs or metrics are financially based. For example, a key objective for an organization can be customer satisfaction or the number of people served. (The fourth part of this blog series will get into KPIs and metrics in more detail. To learn more about KPIs and Metrics and why they are so important, sign up for our Newsletter.)
- Analyzing the data. The accounting team analyzes the data to predict what may happen in the future and make a forecast. One aspect is to review sales and customers. Have you gained any large customers or lost any? Or are there new products rolling out? These are a couple of items that would affect the sales forecast.
- Verifying results. The actual results are compared to what was forecasted. This may confirm that the forecast was accurate, or it may indicate that there were some issues and the variables or data used may need to be adjusted going forward.
Pro tip: This may seem daunting but it is an important process in understanding if your business is meeting its goals and it can identify areas for improvement more quickly if you are measuring your results. By outsourcing your accounting you gain forecasting expertise of an accounting team and Virtual CFO.
Forecasting in business is particularly important management tool in a few ways:
- Understanding of the business results and what areas may need to improve in order to achieve the goals of the organization
- Helping to anticipate changes in the marketplace and allow businesses to be active instead of reactive.
- Understanding the demand for your business products or services
- Managing your inventory (or supplies)
- Budgeting for raw materials or human resources
- Informing process management, recruitment, product strategy, and cash flow
By forecasting, businesses are able to predict expected costs as well as revenue or profits. A business forecast should work with the goals established in your business plan. The forecast findings then help to inform your business plan going forward.
For this reason, accounting professionals will review and reassess business forecasts to make sure they are both accurate and aligned to your business goals.
“Although forecasting models and methods provide a more valuable forecast, they are not always 100% accurate,” cautions Kerry. “They do require fine-tuning as new information becomes available. but it will prove to be a valuable process to business owners and managers as they will be able to plan into the future more effectively.”
Businesses and marketplaces are always evolving, so it is important to be resilient and adaptable to change. This is why it’s important for forecasting in business to be an ongoing process that is easy to adjust as required. By continuously reviewing and updating your business forecasting modules, it will help identify areas of strengths and weaknesses and allow the business to have a more focused approach to achieving goals and objectives. Want to find out more about having a virtual Accounting Team to help with budgeting and forecasting? Please contact Finatics Accounting Solutions for a complimentary consultation.