Most business managers will have developed some form of budget. For some businesses, it may be a simple one page document; for others, it is a detailed report that incorporates a high level of detail on the business, its plans and its capabilities.
Usually, it incorporates a plan for revenue and expenditure over a set period of time (often a financial or calendar year) and is based on historical trends and circumstances.
The budget is often drawn up in the months prior to the “start” of the defined financial period and then each month the business will track back to those static numbers – for instance, anticipated turnover, inventory, staff costs and cashflow.
While necessary, such a document is inevitably limited, not least by the fact that it is a static document that is built on historic events and data.
By basing the budget on what has happened in the past, it very quickly becomes dated. The danger is that after a few months, the budget is simply filed away somewhere and only referred to from time to time, usually as part of the accounts process, rather than used as a guide and planning tool for the business’s development.
For such reasons, it is useful for businesses to also have a forecast.
Essentially, a forecast is like a budget but with greater flexibility. It can incorporate current circumstances and, where possible, known future activities or events. Changes can therefore be reflected in the forecast that budgets can’t generally take into account.
This could include last minutes changes to supply or unprecedented high order levels, or even just unanticipated fashion changes.
Developing a forecast
Both a budget and a forecast usually start out in the same place – with a review of historic trends and circumstances, while also incorporating known events for the period immediately ahead such as seasonal changes or trade shows.
However, a budget is often out of date before the first quarter end or even earlier in some circumstances, as things change. If these circumstances are not updated in the budget then each month the analysis back to budget becomes a number-crunching exercise rather than the more important analysis of what is actually happening in the business.
If the budget is not updated to forecast for new circumstances then the process of “meeting budget” throughout the year simply becomes a mathematical equation where the strategic goals of the business may be put aside in the quest to meet budget.
Or put another way, using a static budget (with numbers that are probably out of date within the first quarter) to track and lead performance improvement throughout the year could lead to a break down in business plans and the misdirection of funds to strategically less important objectives.
A better approach is to prepare the budget and then at the end of the first quarter (if not before) re-forecast the budget to incorporate changes from both internal and external circumstances. The overall budget document can remain the same, as a record at the start of the financial year, but the forecast becomes the key document in planning for growth and adjusting to change in the business.
Keeping up to date
A forecast should be a ‘live’ reflection of the business. It therefore needs to be constantly reviewed and updated, at least every quarter but, in some cases, monthly.
It should “roll forward” each month, so that it is live and linked to the strategic direction of the business.
The forecast should always be projecting out for the next 12 to18 month period. Therefore, for businesses that have developed a budget at the start of this financial year, now is a good time to review the last quarter and develop a forecast until the October quarter of 2013, or even the first quarter of 2014.
One advantage of this approach is that it creates a more accountable and responsible environment, as people are not just accountable for this year but for the future direction of the business.
It also means that the business should be much better placed to take advantage of new opportunities or deal with challenges – something that is increasingly important in today’s retail environment.
Kate Blecich is a manager with accountants and business and financial advisers HLB Mann Judd Sydney. http://www.hlb.com.au.