Budgeting and forecasting are two common methods in the accounting world. It is key for your business's accounting team to be familiar with both budgeting and forecasting techniques. Need a bit more information on how each of those methods works? Do not despair - we have compiled a short guide on forecasting and budgeting.
What is a budget?
Simply stated, a budget is a plan for the next financial period of your organization (usually one year). It's essentially an overview of your objectives, summarizing where you want your firm to be at the end of the period. Budgets have various characteristics, including revenue and expenditure estimates as well as expected reduction of your business's debt, and expected cash flows. This can then be used to compare your present data on actual performance with your budget. This will show how much money your business actually turned over compared to the budget. Budgets are usually updated annually.
What is a forecast?
Financial forecasting describes a prediction of what your business is likely to actually achieve. Forecasting methods are often used for short-term planning, they do also suit longer reporting periods. Using a forecasting method for long-term planning can influence your strategy and business plan. While they do not go into too much detail forecasts provide a good overview of where your business is likely to go.
A financial forecast tends to be more strategic than a budget, sketching out where your business can be expected to go that’s based on past and present data and business drivers. Historical data on eg past performance informs a streamlined overview of your business performance - a forecast is likely to show revenue and expenses, and to be updated regularly (i.e. monthly or quarterly).
While forecasting is often used for short-term planning (when you’re first starting out, you may even complete weekly forecasts), it can also be used over longer periods to help guide your company’s long-term strategic goals. Forecasts tend not to go into granular detail, but instead, provide a high-level overview of where your business is expected to be in the coming months and years.
Forecasting for (small) business tends to be most successful when creating a number of forecasts for different scenarios or outcomes. This gives you a good overview of your business's performance in varying economic scenarios, which can help you plan more effectively for the future.
So, what are the main differences between the two?
Let's look at some of the key differences between forecasts and budgets.
The main distinction can be made in regards to their purpose - while budgets are intended to be an outline of the direction that management of (small) businesses wants to take their companies, forecasts provide a clearer indication of where the business is actually heading and whether it’s reaching its financial goals and ambitions.
How to - budgeting and forecasting
Forecasting can provide you with a more insightful understanding of the actual circumstances that your business is facing and provide specific insight, such as a sales forecast. Budgets, on the other hand, often provide unachievable targets or goals for eg future sales that are not achievable in eg current market conditions. However, budgeting has its place in business decisions and a company's financial planning.