Financial forecasts show where you want to take your business and how you plan to get there.
Of course, at the moment, it’s easy to think that any forecasting is a waste of time. You’d be far from alone in thinking that – only 27% of small and medium-sized businesses (SMBs) have written financial forecasts or business plans that they’ve reviewed as a result of the pandemic.
But in fact, financial forecasting is more important than ever, especially as you plan for the year ahead. Read on to find out why – and get guidance on how to put a financial forecast together if you haven’t done one already.
Why You Need a Financial Forecast
There are two reasons a financial forecast is important.
The first is that it gives you a roadmap for the future of your business. It looks at past performance to put a structure around how you plan to achieve your ambitions.
At this point, you may be thinking that your ambitions are on hold, so a financial forecast isn’t needed. But financial forecasts aren’t just for forecasting growth. They also give you the means to take control of favourable and unfavourable situations so you can see a route forward.
A financial forecast isn’t just an internal document. If you apply for a loan or an investment, your lender or investor will want to see they’re investing in a viable business – a robust financial forecast helps to give them that reassurance.
The Key Elements of a Financial Forecast
To put together a financial forecast, you’ll need reports such as your income and cash flow statements, your balance sheet and your profit and loss (P&L). You’ll use these to project forward in different areas of your finances. In each case, it’s worthwhile looking at best, average and worst case scenarios. Best case gives you an ambitious target, average assumes business as usual and worst-case means you’ll have thought about the consequences so you’re better able to respond if you need to.
Once you have your data, here are the areas you need to forecast from them:
- Sales. You’ll need to include detail such as unit costs and the cost of sales to understand the actual revenue you’ll receive from each sale.
- Variable costs – the costs that change depending on your sales. You’ll need the sales forecast for this. Employee spending is a good example of variable costs.
- Fixed expenses – the costs that don’t change depending your sales. Think rent, utilities, salaries, loan repayments and professional fees. Consider how these will change over time in light of your sales forecast – for example, will you need to take on more staff or move to different premises at some point? If so, when? Factor these changes in.
- Cash flow. As the saying goes, cash is king. Your cash flow will show you whether you’ll always be able to pay suppliers on time or when you’ll have enough cash to invest in new equipment or hire new staff you planned in your fixed expenses.
Once you have completed your financial forecast, it is vital that it remains a ‘live’ document. Compare forecast data with actual data and adjust future projections as appropriate. When you do this, you’ll always have a clearer view of the future.
Improving the Speed and Accuracy of Financial Forecasting
At its heart, robust financial forecasting needs two things: time and data. If both are lacking, it may be time to consider digitising some or all of your finance processes. It removes mundane data entry, freeing you up to spend more time on strategic work. It also gives you access to more data, more quickly, so you can access the data you need, when you need it. And all that helps promote a healthy bottom line.
For more insight into this, as well as how finance can steer the business through times of change, download our latest white paper – Six Strategies for Finance to Lead Through Change and Drive Digital Transformation.