Knowing the difference between forecasting and budgeting is an important part of running a business effectively. While these two terms are usually linked together, they are certainly not the same. Here is a guide to help you understand the difference between forecasting and budgeting and how both can help you grow your business.
What Is Forecasting?
Forecasting means to create a projection of revenue and expenses at a higher level. These forecasts can be done for either short-term or long-term periods and are done either from the bottom-up or the top-down.
A long-term forecast will generally look out to several years in the future to help create a more long-term business strategy. Short-term forecasts, on the other hand, are typically created merely for operational purposes. The revenue forecast can help you make plans for production, inventory levels and product distribution. A well put-together forecast can also help you secure a business loan and determine staffing requirements.
How To Use A Forecast As A Business Tool
Forecasting is a great tool for any business because it can help you make focus and spending adjustments throughout the year. For instance, if a big client will be adding more business volume to your company this year, it can have a big impact on cash flow and operations. Here are a couple of things to consider when creating forecasts for your business:
- It is wise to create a total of three forecasts, including one that includes an optimistic outlook, another that is pessimistic and a third that is most plausible. The multiple forecasts allow you to consider all possibilities.
- You will also need to update your forecasts regularly to keep track of the ever-changing business environment.
- Include all of your key team members in the forecasting process. Be sure to include all department managers so that you have the best information possible from all levels.
What Is Budgeting?
As we continue to understand the difference between forecasting and budgeting, we will now take a look at budgeting. A budget is an outline that includes all details of what could happen financially in your business throughout the year. Your budget should include details about your business’s cash flow, revenue, expenses and financial position. You can easily find this information by running a financial report via your QuickBooks accounting software.
The budgeting process will differ depending on the size of your corporation. For example, if you own a large company your budget should be managed by your Finance Director and should include input from all department heads. However, in small companies the budget might be completed solely by the owner or with the help of one or two key employees.
Budgets are typically set in stone for the entire fiscal year. However, some companies use a continuous budget model, which is adjusted throughout the year depending on the business climate. The continuous budget model can be more accurate, but it also needs more detail and doesn’t necessarily bring forth a better outcome.
How To Use Budgeting As A Business Tool
Budgeting is a great tool to use for business management. You can analyze the differences between your budgeted amounts and actual financial results to help you understand the state of your business. For example, if you find that your expenses are higher in a certain area than you budgeted for, you can do more research to find out if the overage is legitimate or due to overspending.
Budgeting can help you answer other important business questions too. For example, it will help you see if your profits and revenues are on track. You can also see if you are adding extra revenue or losing business as compared to the budget. Reviewing the budget regularly is a critical part of managing your business effectively. Some businesses even use the budget as a factor when determining performance-based pay.
Here are a few other factors to consider when creating a budget:
- Begin with a cash-flow projection that is based in reality. You can use revenue forecasts to help you, but it is better to be conservative and understand that you might not generate as much revenue as you hoped for.
- Make a clear distinction between essential and discretionary expenses. Essential expenses include things such as electricity, while discretionary expenses are not essential to running your business.
- Include any debt reduction payments into your budget.
- Be sure to include cash reserves in your budgeting so that extra profits are able to act as a cushion against a future economic downturn.
Using Forecasting And Budgeting For Your Business
Now that we understand the difference between forecasting and budgeting, it is still important to remember that they are not exclusive of one another. In fact, a good forecast leads to the development of a good budget. You should continue to compare your most recent forecast to your budget throughout the year to help you make necessary adjustments. You can make this process easier on yourself by using QuickBooks to create projections and budgets with minimal effort. It is also wise to check in with your accountant to ensure you are on the right track.