We’d all love a crystal ball for our business. If we knew what was ahead, it would be easy to formulate a strategy and anticipate expenditures and opportunities. Failure to plan and control cash resources often leads to insolvency for many businesses.
The reality is that most businesses have to make an informed decision on what’s likely to happen. They do this in two ways: the budget and the forecast. These are both extensions of your business plan.
So what’s the difference? Very simply put, a budget is a goal or intention while a forecast is your latest prediction of whether you’ll reach that goal.
Budgeting
Budgeting is a plan for where you want your business to go, based on assumptions about internal business performance and external market conditions. It involves a detailed look at what you want your business to achieve financially in the future. It helps you control your cash flow by including the revenues and expenses your business may incur.
A budget is often revised on an annual basis. It creates a baseline for how your business actually performs because you can compare it to actual results down the track. If there’s a wide variance, you can take steps to adjust the budget so it’s more in line with actual profit margins.
For example, John runs a company that imports tiles. Last year he sold 50 million units. This year, with the building and property renovations market tipped to see strong growth, John anticipates he’ll sell 60 million units. He budgets for importing more units and possibly taking on more staff to handle the increased orders.
Forecasting
A forecast is an estimate of what may actually be achieved, based on historical data. You might look at what you achieved last year and predict what next year will bring. Businesses use forecasting to decide how they should allocate their budgets for a future period.
Forecasts are updated much more regularly – often monthly or at least quarterly. They give a more current picture of what’s going on in your business so you can immediately take action based on the forecast data.
For example, Mary’s company exports Australian luxury goods to China. She was hoping to grow her business this year and originally budgeted for a 20% increase in units sold. However, her latest forecast reveals the Chinese market is experiencing a slowdown, and her sales figures are lower than this time last year. Mary immediately reduces her orders to suppliers, anticipating she won’t sell as many units this year.
Tips for Better Budgeting
- Involve your whole team: A budget requires some time and thought, and different opinions are valuable. Involve senior team members when creating it, and from all departments – not just finance
- Account for everything: Businesses often miss important details. Ensure you have included every expense and variable
- Factor in some slack: You may face unexpected costs, or not generate the income as planned. Always keep some money in reserve
Tips for Better Forecasting
- Pay close attention to the market: Ensure that you and other team members are watching for trends, listening to customers and keeping an eye on the competition
- Have a contingency plan: Always expect the unexpected, from the loss of your largest client to your main supplier going bankrupt. Having a Plan B is vital to survive the unforeseeable
- Get your forecast assessed: Investing in an impartial assessment of your forecast can either provide reassurance that everything is covered or point out things you overlooked
As a business, you need a budget, you need to know where you plan to go and you need a forecast to see if you’re getting there. What you hope will happen and what is actually happening are rarely the same.