Strategic planning is a vital skill every successful business develops at some point. It’s an intentional effort to make sure the direction of the company is feasible and communicated clearly throughout the organization. A critical part of that process is aligning the strategy with a viable financial plan, which is where budgeting and forecasting comes in.
Budgeting and forecasting, along with cash flow planning, are how you keep a hold on your business finances. The problem is most owners don’t have a process or a cadence to do either one consistently. Beyond that, most don’t know the difference between the two well enough to do them accurately.
Check out this article I wrote on the budgeting process for small businesses.
Too often, the terms budgeting and forecasting get used interchangeably. When people say “forecasting,” they usually mean budgeting instead. They’re not the same tool, and they don’t do the same job.
Budgeting: A detailed plan of expected income and expenses, built on assumptions, for a set period. Usually a year.
Forecasting: A data-driven prediction of financial results, built on recent, real information.
The budgeting process results in a plan for the year. You build it once, maybe revisit it at a true midyear checkpoint, and it becomes the yardstick you measure the business against for the next twelve months.
Forecasting doesn’t work that way — and that’s exactly the point.
Why forecasting is the one most owners skip
A budget is built on assumptions you made months before the year started. You’re answering the questions:
What demand will look like.
What materials and labor would cost.
What interest rates would do.
The real world doesn’t wait for your fiscal year to catch up. By month four or five, some of those assumptions are already wrong. A supplier raised prices or has significant delays, a big contract fell through, a key piece of equipment needed an unplanned repair.
A budget can’t tell you what’s about to happen next year. That’s not what it’s for. Forecasting is the tool that tells you, in real time, whether your original assumptions are still holding up so you can adjust before a small miss turns into a huge problem.
Most owners treat the annual budget as the only financial planning they need, set it, and don’t look up again until next year’s budget season. This will kill your business. The budget tells you where you intended to go. The forecast tells you where you’re actually headed. If you only ever check the first one, you’re running the business by last year’s map instead of this week’s radar.
How often you actually need to forecast
Certain industries need to forecast far more frequently, depending on how many moving pieces are involved. Manufacturers, for example, often forecast monthly because of how much their environment changes week to week such as equipment breakdowns that slow production, suppliers with delays that push your own fulfillment dates, material cost swings that hit margin before you’ve even noticed.
Most businesses can get by forecasting quarterly or semi-annually. But “most businesses” isn’t a free pass. If any of the following describe your year, you should be forecasting more often than you think:
You rely on a small number of large contracts or customers
Your material or labor costs are volatile
You’re carrying debt with variable payments
You just won (or lost) a significant piece of business
Your supply chain has shown any sign of delay in the last twelve months
A simple way to start
You don’t need a finance department to build a forecast. At its simplest, a rolling forecast does three things on a set cadence:
Compare actuals to budget. Where did the real numbers land versus what you planned, and by how much?
Update your assumptions. What do you now know that you didn’t know when you built the budget?
Project forward. Push your numbers out for the next few months based on what you just learned, not what you guessed eleven months ago.
It doesn’t need to be more complicated than that to be useful. What makes it useful is doing it on a cadence instead of only when something’s already gone wrong.
The real lesson
Budgeting and forecasting aren’t competing tools. They’re both required and they accomplish different objectives. The budget sets the direction. The forecast tells you whether you’re still on course, and gives you time to correct before the variance shows up as a cash flow problem.
If you’ve only ever built a budget and called it done, you’ve got work to do. It’s time to install a forecasting process. It’s also one of the clearest signs of the shift from owner to executive: an owner reacts to the numbers after they happen. An executive has already seen them coming.
