Creating a Forecast for the First Time? Easy! If you Follow These 3 Simple Steps!
Posted on 20th February 2017 in Forecasting
Written by Joanna Krashia
Creating a budget or forecast, whether it is the first time of 50th, can be daunting if you’re used to tackling this in Excel spreadsheets. After all, you are running a business, and that means time for you to focus on anything without interruptions is in short supply. When you are starting something new, you might have already subconsciously associated the words ‘difficult’, ‘complicated’ and ‘unsure’ to the task. That’s why it’s easy to see why this item on your ‘to do’ list keeps moving to tomorrow. This blog is a simple 3-step guide to nailing your forecast so we hope to bust the myth that change or cloud is difficult. Trust us, you won’t look back!
If you haven’t already, sign up to FUTRLI, do that now. Remember, you can try it free for 7-days.
Step 1: Start from Last Year’s Actuals
Why create something from scratch when your previous results can be used as insights to power your assumptions? Basing your forecast on last year’s data is the perfect starting point as you are saving valuable time while making sure that the seasonality of your business is also reflected in your forecast.
I asked our Founder Amy Harris how FUTRLI approached it….
“We faced exactly the same challenge that you are facing today when we got started. What we had invented was brand new to the world so what could we possibly base our assumptions on? As usual, Google became our friend. In months 1-3, we researched what other SaaS start-ups had achieved, as well as referencing a previous business of ours.
From month 4 onwards, we used formulas to calculate an extrapolation of month’s 1-3 and then we kept scaling and adjusting where we landed versus where we said we would be. The good news for you is that our direct integration with QuickBooks and Xero means that your GL will flow automatically into FUTRLI to update your assumptions and alert you to if you’re on track or not. When we started we hadn’t built FUTRLI yet, so we started in spreadsheets…it was painful.”
Step 2: What’s changing this year compared to last year?
Identifying the core differences between the previous year and the current year is key. What has changed since last year? Did you win new contracts or clients? Did you lose an important deal? Try to break down your revenue and costs into smaller pieces and account for significant changes.
This means identifying the drivers behind the financials. If you are running an events venue then it will be the number of pre-booked events each month that drives your business. If you are operating a hotel, agreements with agents are of vital importance (Supercharge Your Business Forecast with Non-Financial Business Drivers).
But, don’t get lost in the fine details. You can do that later. Your focus now should be to have a view of the general direction you are heading in. Focus on your biggest revenue streams and your most significant costs. Your priority is to get a generic view first and then you can always come back and add the finer details or account for minor changes.
Step 3: Understand the difference between profitability and cash flow
By using FUTRLI, you are creating a 3-way forecast which includes your Profit & Loss, Balance Sheet and Cash Flow. It is absolutely vital that you have both a Profit and Loss and a Cash Flow, let’s explore this example to see why…
Industry Example: Agriculture
Craig recently acquired a dairy farm and provides milk to approximately 100 stores in his area. He has the same agreement with all of them. 500L of milk a month for the price of $1/L (keeping it simple so you don’t even have to use FUTRLI to do the maths for you!)
500L * $1 * 100 stores = $50,000 per month
His total costs are approximately 50% of total revenue, which gives him a monthly profit of $25,000 a month. Not bad. He is working hard but it looks like his hard work will pay off. He prepares a budget for the year, planning all of his household expenses around that as well, with the expectation of approximately $25,000 being deposited in his bank account at the end of every month. Sorted. Or is it….
Recording a profit and collecting cash, is not the same! Craig also needs to account for the timing of his cash inflows. Three months down the line, Craig has maxed out his overdraft and he is forced to try and set up a loan to keep his new business alive.
What went wrong? In his original agreement with the 100 stores, he allowed 60 days of credit, however, his downfall is that most of these stores are running late on their payments so 90 days later he is still trying to collect cash.
Profitability does not equal cash
Which brings us to the next step in preparing your forecast. Accounting for the Payment Profiles and adjusting your expectations in terms of collecting your existing balances for Accounts Receivable and Account Payable. What you need to do is make sure that a payment profile is assigned to both revenue and expenses, which essentially builds your Cash Flow Statement by calculating expected Receipts (cash inflows) and expected Payments (cash outflows).
The final thing Craig would need to do is make sure that his loan repayments are taken into account, as they can have a huge impact on your cash position.
Present your forecast visually
This should be so common nature, it shouldn’t be a step. What is more powerful? Looking at a table full of numbers or looking at a chart that shows your bank balance moving upwards? Unless you are an accountant and you love numbers, I would assume it’s the latter!
Visually presenting your forecast is essential as it gives you the opportunity to identify ups and downs in your expected performance or simply to check whether your receipts exceed your payments at a glance.
After completing your forecast you can create a visual representation of your forecast cash flow in less than a minute.
But don’t limit yourselves to that. Even though your cash position is important, being able to single out the costs that eat up most of your profit or being able to determine the revenue streams that give you a higher profit per dollar spent, can be extremely insightful.
Creating graphical representations of your expected performance allows you to pinpoint issues, identify opportunities and focus your energy on what will pay off in the future.
The good news is that creating powerful charts has never been easier. You can either use our templates, refer to our KPI Library to get some ideas or build your own based on your business needs.
If you are still not sure how to start analysing your business’ performance today, contact us for a free consultation with our Management Accountants who can help you identify the good and the bad in your business.