You may think of investments and stocks when you see financial forecasting. However, what I will cover is not about those. Instead, it’s about sales, COGS, and operating expenses for a small business. A financial forecast is a strategic tool where you reflect changes in your business plan as a result of new scenarios impacting the business.
It helps you filter down options and make decisions for your business. I talk about budget and forecast in detail in this post. You can also learn how financial forecasting helps you grow your business.
Introduction to Financial Forecasting
Budget is probably something that small business owners are familiar with already. Financial forecasting, on the other hand, is not commonly done by small business owners. In contrast, large companies utilize this tool and even use software for this purpose. At the Fortune Global 100 company I worked at, the business planning process is covered for the whole month.
In some companies, the preparation and review of dynamic forecast is part of the business planning or corporate decision support. The process is sometimes referred to as business or operations review or business planning or financial planning.
A financial forecast is usually prepared monthly. Usually after the monthly books are closed and account balances are finalized. Books refer to your accounting records. Your timeline may be different because it will depend on your country’s regulations.
Financial year, for tax purposes, in most countries is from January to December. Usually a 12-month period. In some countries like Australia, the financial year begins on July 1 and ends on June 30. Transactions are completely recorded on the last day of every month. The first week following the monthly closing is for reconciliation and reporting.
Reconciliation and reporting include the review of the accuracy and completeness of transactions. So by then you have information on how your business performed for the month. Thus, you can proceed with financial forecasting by 2nd week or as early as 4th day of the month.
How is Financial Forecasting Done?
The complexity of financial forecasting would depend on the size and nature of your business. For a small business selling only a single category product, it may be straightforward. In contrast, an online business with multiple varying sources of income may take longer.
The availability and ever-changing behavior of data is another hurdle for an online business. Because you have to consider market (consumer) behavior, political and social factors when you do your DF. This is something that is hard to assess for an online business. It also depends on how you are driving your marketing strategy.
This process is simplified for an online business. Again, it is more elaborate more a larger company and dependent on the complexity of your business.
- Review your financial results. Compare results against your budget and prior year.
- Identify factors affecting your results and assess the potential impact going forward.
- Do your market research. Analyze your statistics.
- Re-assess your marketing and sales plan.
- Reflect the necessary adjustments on your forecast.
Expect to re-do your financial forecast if you are not satisfied with the result. That happens when the gap between your budget and forecast is extreme. Unless there is significant unexpected business change, your budget and forecast should not be poles apart.
Your budget is a reflection of your plan. The plan is how you can achieve your goal for the year. It is not that practical to suddenly switch to a totally different direction and deviate from your plan for the year. Your forecast is your tool to reinforce your plan and budget.
Let’s consider the impact of Covid-19 as the scenario. Use your forecast to assess whether you can still achieve your financial goal for the year. Convert your new actions into numbers and incorporate them into your forecast. Your financial results may be lower than the budget. So what is your course of action? Identify then calculate the numbers.
What You Need
Monthly Profit and Loss Statement
This is your starting point. You need to review your results, whether favorable or not. Start by comparing your actual results with your budget. If you prepared your budget based on a plan, there shouldn’t be much difference.
You may have heard your accountant mention “variance”. That pertains to the differences between your budget and actual results. You should be able to investigate and explain the differences. Basically, identify the reason why you deviated from your budget. Notice, as well, the impact of external factors when you do the analysis. This leads to the next requirement.
You have to consider external factors when you do financial forecasting. For instance, your actual sales may be lower than your budget. Are there changes in consumer’s buying behavior? What caused it? Are there new competitors offering similar services but at a lower cost? A more focused marketing activation?
Your knowledge and insight about your niche and consumer play a big role when you do financial forecasting. Statistics come in handy here. You can also use your site and social media statistics. Try to connect your online stats with your financial results.
Marketing and Sales Plan
I know these have been considered during the budgeting phase. However, you still need to refer to them as you do your financial forecast. Considering the results, do you need to make changes to your marketing strategy? An unexpected, unfavorable political situation may prompt you to move your launch to a later month.
It can also be the opposite. You may want to move the launch earlier because of a sudden influx of interest on what you offer. It can also be due to an offer for a speaking engagement that would attract interest. So you adjust your numbers to reflect those changes.
There are more factors affecting the financial forecast, especially for larger companies. However, for a small business, these are the basic requirements. If you prepared your budget diligently and review your results, that should give you so much info already.
There are also other players in larger companies. If your business only has few service or product categories, that may not be the case for you. Because Marketing, Production, and Sales teams need to provide information necessary for the forecast.
How Far Should You Forecast?
Your financial forecasting covers the whole year and beyond. However, in most cases, it only covers the current year in review. Though your focus is the rest of the year. You only refer to the past months’ results as a basis.
Introduction to Budgeting and Forecasting
What’s the difference between budget and forecast? Why do you need a budget and a forecast? When to do a budget and a forecast?