There are tools that companies use to catapult their businesses into the next level and to ascertain whether the business is headed in the right direction. It does not help to have a business without checking whether it is meeting the needs of the consumer and achieving its own goals in the process. Such tools include budgeting and financial forecast, and though they are often used together, they are two different concepts.
Budgeting quantifies the expected revenue while financial forecasting estimates the revenues to be achieved in the future. A budget gives a clear outline of the direction that the management is planning to take the company while the forecast is a financial report that illustrates whether the company is reaching its financial goals or not and recommendations that can be adhered to.
Budgeting and financial forecast work in tandem with each other, but they both have characteristics that differentiate them from each other.
Budgeting
Budgeting is used to predict the income and expenditure of an organization within a given period of time. It calculates the amount a company expects to make Vis-a-Vis how those earnings will be spent, with the clear goals of the organization’s objectives over the period of the budget. Budgeting quantifies and examines the viability of the financial plan prepared.
Budgeting also looks into the debt requirements and controls the techniques used to evaluate performance. They are usually short term and are used only for a given accounting period. It is usually planned prior to the planned implementation; however, it can be adjusted depending on a company’s needs and operations within the budget period.
Budgeting serves like a road map that recognizes the income and expenditure of a company, ensuring that the company does not exceed its expectations for the given budget period. A company’s financial position is represented by a budget. Budgets are re-evaluated periodically, depending on the company’s operational needs. A budget has the following characteristics:
- An estimate of revenues and expenses
- An expected cash flow
- An expected debt reduction
- Actual results to calculate variances between income and expenditure
To come up with a perfect budget, you need to figure out how much money a company makes from sales and other sources, then determine the fixed costs, or the expenses that are incurred each month, or within the budget period. Fixed costs include expenses like rent. Also in the budget are expenses whose costs might change from time to time like utility bills (electricity and water). Other one time expenditures that might also be part of the budget include staff retreat or replacement of broken equipment and machinery. All these are then put together in a single document and called a budget.
Financial Forecasting
Financial forecasting is quite different from budgeting as it is used to determine the financial status or strength of a company. A budget is used as a financial planner, but a financial forecast uses this plan to know the financial direction that a company is taking. A financial forecast is a tool used to predict a company’s financial position by the end of a fiscal year.
With this tool, it is easy for the management to make adjustments to ensure that they do not run at a loss by the end of the year. The financial forecast examines historical financial data and then uses that data to estimate future financial outcomes. A long forecast can help management to develop a business plan that is sure to achieve the financial goals of a business.
The financial forecast is limited to revenue and expenses and can be updated at regular intervals, either monthly or quarterly. Characteristics of a financial forecast include:
- A regular, updated inventory.
- It is both short term and long term, depending on business operations
- Contains both historical financial data and future predictions
A financial forecast presents estimated information based on past, current, and future financial position of a company, as well as recommendations on what to do better. This tool helps identify future revenue and expenditure trends that have an immediate influence on the strategic goals of a company. The key steps to a good financial forecast include:
Collecting data
A company’s accountant or accounting software can be used to generate financial data that are required to create a proper financial forecast. Past financial statements are vital to creating a viable future prediction.
Decide how to create the forecast
There are two ways that a financial forecast can be made either historical or research-based. Historical forecasting is using past records to predict the future while research-based involve looking into the market trends to predict the future. Blending the two is still a viable option.
Creation of Pro-forma statements
Pro forma statements are created using statements like income, cash flow, balance sheet, or a combination of the three. The plan used depends squarely on the goals a company has for its financial forecast.
Key differences between a budget and a financial forecast
To better understand the differences between a budget and a financial forecast, the following five points summarize it.
The first obvious difference between a budget and a financial budget lies in the definition. A budget is a statement that showcases expected revenues and expenses over a given budget period, while a financial forecast is a prediction of the future based on historical data.
The purpose of a budget and that of a financial forecast are also different. The purpose of a budget is to provide a model of how the business might perform financially if given strategies and plans are carried out. The purpose of a financial forecast, on the other hand, is to evaluate the past and the current financial conditions in order to predict future financial standing.
Financial forecasts are usually created for the long term, spanning several years, although there are shorter ones say quarterly forecasts, unlike a budget which is designed for shorter periods like a month or one fiscal year.
When it comes to flexibility, a financial forecast is extremely flexible compared to a budget. A forecast is easily adjusted to reflect the changes in the operating environment. A budget, on the other hand, is more fixed. Once a budget is prepared, the chances of making changes to it are limited.
Another major difference between a financial forecast and a budget is how both tools are applied to real situations in the business. A forecast is a strategic tool that is used to plan for the growth of a business over several years. A budget, on the other hand, is a tool that is used to manage operations over a given period.
So which of the two financial tools is important? Many people may argue that a budget is more important than a financial forecast and vice versa, while others may agree that both tools are important. You can’t really have one without the other because they both play a vital role in the growth of a business.
Running a business without monitoring your financial status is disastrous; hence the importance of having a budget. On the other hand, no one starts a business to remain static; every business owner desires to grow and expand; hence it is important to monitor the past financial status and predict what the future holds. This is where a financial forecast comes into play. In short, both tools are necessary for the growth of a business.
A financial forecast presents estimated information based on past, current, and future financial position of a company, as well as recommendations on what to do better. It helps identify future revenue and expenditure trends that have an immediate influence on the strategic goals of a company.
Your business needs to be on top of financial matters by doing perfect budgeting and having a spot on the financial forecast. The best way to ensure you do this effectively is by seeking the services of a finance specialist. Fractional CFO Plus is a reputable brand that specializes in helping businesses scale up by ensuring their finances are in order. The company will give you a good approach to the financial health of your company.
