Forecasting is an often-debated topic with many different approaches, methods, and reasons to do so. However, forecasting must be begun with the end in mind, and completed in a way that matches with your business plan, strategy, and ambition. Most importantly forecasting must be considered and executed on early enough so the team is primed up and ready to hit the ground running when the forecasted period begins. Never has it been more important to know where you are heading in such uncertain times.
The immediate thought may be that one cannot predict the change that is going to happen in the future, but that is why we forecast! If there was going to be no change, then you would not need to plan ahead. The point of forecasting is to regulate and formalise the thinking and expectations that exist in your head; and indeed, in those of any key management or other staff in positions of responsibility in the business.
We all have some ‘gut feel’ as to how things are going to pan out, and whilst the last 18 months have seen some of the most unexpected changes, a forecast can assist you in responding to those changes effectively. We have seen particularly strong growth and profits over this period from those of our clients who took an early and disciplined approach to forecasting the impact of different scenarios at an early stage. Such insights guide, if not enable, appropriate action.
At UBTA we recommend you begin to put together a draft forecast for 2022 and potentially beyond over the next two months. Whilst this may be very basic and feel premature, it will begin to shift your focus onto the long-term prospects and opportunities within your industry.
It would also be beneficial to involve your budget holders in this process, or if you do not yet have them begin setting them up; there is nothing more effective than giving individuals a number to manage, this will not only improve your profitability but also improve employee buy in and begin to make them adopt the ‘ownership mentality’ that we all desire. It has often been said that you need to ‘pick a number and manage it’, and what better way to KPI your key staff than hold them accountable to that key number within your business.
Setup
In terms of setting up a forecast, the most common process is to start with planning how you want the P&L to look for the period. At this stage in the year, we would recommend you start by focusing on the high-level figures such as:
- Sales
- GP
- Wages and salaries
- Total overheads
By considering these figures you should be able to come up with a rough plan on what profits you may be able to achieve for the period. Whilst at this stage it may be tempting to divide your annual sales target by twelve and spread it across the next 12 months, this does not give an accurate estimate of what the period is going to look like, and it would be far more beneficial to take some more time at this stage to ensure that the sales target has some science behind it.
Having forecasted the P&L, you can then move on to further financial statements such as the balance sheet. Having agreed on sales and GP targets, you can then quickly calculate what your inventory requirements, debtor amounts, and creditor amounts will be. This will then give you a rough idea of the amount of cash that you will require to fund the business.
This can then be developed further into a cash flow forecast, which gives you opportunity to take into consideration further financing activities as well as potential capital expenditure.
Once each of the three components of the financial statements have been forecasted you should then be able to refine and hone your strategy to work towards achieving the forecast. This can also be useful when speaking to investors or banks, as they can see where you are heading as well as what funds the business will require at each point throughout the period.
So far, we have looked at forecasting as more of a goal setting exercise. However, the purpose of forecasting is to comprise a plan based on events that you see happening in the future. Therefore, it is important that you do not confuse the idea of budgeting and forecasting, where a budget is an immutable financial plan for the period whereas a forecast is more of a map of the road ahead based on best expectations.
One further point of distinction between
the two is that you would usually only produce one budget, whereas more than
one forecast may be prepared based on a variety of different scenarios, e.g.,
what would happen to cash if sales halved? What would happen to profits if we
put a 3% price increase through? What would profit and debtors look like if we
offered discounts for early payment?