While no one likes to put their stamp on delivering the future, there are ways to make the imperative of forecasting more manageable. Since budgeting is a central part of most businesses, we might as well figure out how to do it with the least pain, and the most clarity possible.
Since the words used in the process are in regular use and often have different meanings, its helpful to start by defining exactly what we mean by a few key terms. We’ll start with Budget, and I will suggest that we agree this is the plan set forward for a fixed period of time… probably a whole fiscal year. It is the stake in the ground put forward at the outset of the period, and will not change for the duration of that period. Then, I’ll suggest that a Forecast is the variable prediction of how we think we will do against that fixed Budget as time goes on. Finally, as we get into the Budget period, we will begin to accumulate some Actual results that we can compare against both our original Budget and our more recent Forecast. So we have three terms defined now, Budget, Forecast and Actual. These terms will apply to our Revenue, Cost of Goods, Expenses, Inventories, or any other metric we may wish to measure.
Shortcomings of the Budgeting Process
Since a Budget is set for a fixed period, the time left in it shortens as the period passes. So in the first month of a traditional annual Budget we will be looking out 12 months. The future is a long way off and we tend to feel that we have lots of time to make up for early shortfalls. At this point, we do have visibility to be able to take some long-term action, but we need a framework that can communicate how that long-term adjustment will be reflected in today’s activity. As the year progresses, the end gets closer and closer, and so does the focus. Long-term actions go out the window in a frantic dash to the finish. Then, along comes year-end, and the cycle begins again.
The Rolling Forecast
A methodology I have found useful involves setting a rolling 12-month Forecast. At the end of each month, a new month, 12 months in the future, is added and the month just finished is deleted. This Forecast can be compared to the existing Budget month by month, and if falling short, then long-term actions to close the gap can be contemplated. The rolling Forecast will extend beyond the Budget period after the first month, and will continue to grow beyond the Budget with each passing month. Now the Forecast can be the operating guidance for the next 12 months providing a consistent time focus whether we are in January or December. It also greatly simplifies the process of setting the next year’s Budget, which could be just the adoption of the year-end 12-month Forecast.
Forecast vs. Budget
Now that a rolling Forecast is updated monthly, each monthly report now consists of two phases. First, we look at adjustments to our Forecast, comparing the Forecast to the Budget. Why do we think we need to change the Forecast? What can we do about the changes? The actions you discuss here will typically have longer implementation times and impacts.
Actual vs. Forecast
Then we can compare Actual performance to the Forecast, which should be pretty good, given that we are now looking at a Forecast made just 30 days ago. Here we can ask: What caused these short-term deviations from our expectations? What can we do next month to make better predictions?
Keep it Fresh
Preparing a new Forecast every month might seem onerous, so you might get away with a quarterly update. Whichever you chose, you will find a great sense of relief about your view of the future and your ability to plan for it. Failure to a good job of Forecasting will leave you vulnerable to being blindsided, or cause you to slide away from your goals, year after year. Nobody likes that any better than forecasting the future!