What is the difference between a forecast and a budget? And how will they help you manage your business?
A forecast is an estimate of what will actually be achieved
Forecasting is an important planning tool which helps businesses cope with the uncertainty of the future. Forecasting starts with assumptions based on experience, past trends, knowledge and judgement which are typically applied to major revenue and expense line items. A three-way forecast can be prepared which looks at the financial position and cash flows along with the profit and loss. A forecast should be updated at regular intervals, perhaps monthly or quarterly to assist with short-term operational considerations, such as adjustments to staffing, inventory levels, and the production plan.
All businesses benefit from a robust forecast, however it's important to get it right, as any error in the underlying assumptions you use will result in a magnified error in your forecast.
Budgeting is a science.
Budgeting is not simply adding 5% to last year’s figures. It is about carefully analysing your business and scientifically calculating sales, margins and costs. A budget should include a valid balance sheet as well as a monthly cash flow statement that reconciles to the balance sheet. In essence, a budget is a quantified expectation for what a business wants to achieve. Its characteristics are:
- a detailed representation of the future results, financial position, and cash flow targets that the business expects to achieve during a certain period of time. This may only be updated once a year, depending on how frequently management wants to revise information.
- a comparison to actual results to determine variances from expected performance.
- remedial steps taken by management to bring actual results back into line with the budget.
- changes in performance-based compensation paid to employees triggered by actual comparisons.
Budgets are vital for all businesses. They force you to consider problems before they arise, what might change and the steps you should take now to ensure your business remains profitable. This is not only essential for your own business planning, it also gives your financier the confidence to say "yes".
The team at RSM New Zealand can predict your potential end of year results based on your current year to date figures. We also use specialist software to help you prepare accurate budgets and have the knowledge to ensure you get an accurate forecast, greatly enhancing your budgeting process and helping to ensure business sustainability.