Using Financial Forecasts and Projections for Business Planning

The use of financial projections and forecasts can be a powerful tool in business.

How much do you know about financial forecasts and financial projections and their difference? Not much? worry not and let's start our financial forecast vs. Financial projections guide that will answer all your questions.

There are many reasons why a company should use forecasting to plan the future of its company. Forecasting is simply predicting what will happen in the future based on past data. A company can forecast its sales, profitability, cash flow, and many other aspects of its business. Forecasts help businesses make decisions that might not be intuitive or easy to make.

What is a Financial Forecast/Projection?

Let's start with business forecasting definition. Financial forecasting is the process of predicting what a company's financial position will be or what a country's GDP will be in the future.

It is also called "financial projection." The difference between forecasting and projecting is that forecast deals with the past and present while projection deals with the future.

Forecasting can be used to predict market demand for certain products on a quarterly basis. For example, projecting can be used to predict what countries' GDP will be next year based on current economic policies and other factors that may affect economic growth.

Financial forecasts and projections are useful tools for capital suppliers and managers since they rely on firms' financial projections to set their own expectations of future cash flows for investing purposes.

There are two types of forecasts

  • A qualitative forecast is a forecast based on the opinion of the analyst 
  • Quantitative forecasts are those that use statistical data and math.
 two types of forecasts

Quantitative forecasts can be used as an input for the decision-making process by analyzing future scenarios that might happen in the market. These projections can help you understand how your decision will affect your business as well as other businesses in the industry.

Why should a Company use a Financial forecasting/Projection?

Forecasting allows a company to plan ahead and take the necessary steps to avoid any potential problems. Statistics tell us that about 82% of small business fail due to poor cash flow accounts.

It is more than just guessing; it is about looking at data and interpreting it. It can walk us through some of the mistakes we may be making in the present and gives us an idea of how to avoid them in the future.

Forecasting is a more forward-looking approach to managing finances, while a projection is a backward-looking one. In forecasting, companies can identify their future cash flows and best estimate revenues for certain periods. Projections are used when looking back on past data to see if it matches expectations.

Forecasting is important because it helps you stay on top of your business. There are so many things that can happen during your business's lifetime, but forecasting helps you prepare for them by considering what has happened in the past and what may happen in the future.Forecasting allows you to formulate an action plan for all of these possible outcomes.

Forecasting provides an overview of the company’s financial state, but projections provide detailed information on how something has performed in the past or how it will perform in the future.

A business should consider forecasting their finances if they have multiple lines of business or have very volatile cash flow streams that cannot be predicted accurately by just using financial projections alone.

How are Financial Forecasts Done? 

The forecast process can be a complicated task, especially when forecasting for a growing company. There are many aspects to take into account, and it may seem like a daunting task.

The forecast process starts with identifying the different scenarios that can happen within the company's industry and estimating their impact on the company's operations. Factors such as demand, prices, competitors, and new products should be considered when making forecasts.

This section will explore 2 key aspects of forecasting that every company should consider when completing their forecast process.

What is Your Forecasting Horizon?

The length of time in which you plan to forecast needs to be known before the process begins. In short, this is how far into the future you want to predict what your expenses will be and what revenues will come in from contracts or other sources. There are generally three types of forecasting horizons:

●     Short Term

This forecasting horizon is only for less than three months. It is utilized for job schedules, work tasks, client commitments,workforce levels, and product levels in planning and purchasing.

●     Medium Term

This forecast is usually for 3 months to a year. However,its period can be up to 3 years. Management in this period predicts different aspects such as sales forecasting, production planning, and cash budgeting.

●     Long term

This forecasting horizon is predicting for more than three years. Management sets a long-term plan in terms of the installation of new plants, factories, or outlets. Moreover, they consider capital expenditures, factory locations, and other sectors.

Forecasting horizons form an integral part of planning and decision-making in any organization. This is why financial managers need to be clear about the horizon of forecasts. On a financial basis, horizon analysis examines the expected discounted returns of a security or investment portfolio's total returns over multiple periods.

How Do You Collect Data for Financial Forecasts?

Data can be collected by looking at historical data, analyzing trends, or by estimating based on new forecasts made during the same period.

For financial forecasting, quantitative data is collected within the organization.It deals with data collection that is measurable and can be expressed by numbers of figures that show a quantity. It includes any sort of data field that contains numbers that represent a value. In quantitative business data, it can be prices, quantity, number of sales, time frame, etc. You can collect data from the production, sales, and marketing department.

One can also use qualitative data for financial analysis. In the financial business,qualitative analysis is used to assess a company's performance, support organizations in making critical decisions, and advise investors on whether or not to invest. This data can be collected through surveys, focus groups, and interviews which can help predict financial performance. For example, if a survey is taken at the pre-launch of a new product, the data collected can be analyzed to predict future sales.

Data can be collected through managing authorities of associated departments. You can also collect data from the organization's filings, industrial data, and IT department. Professional analyst research papers are another useful resource for improving the accuracy of your forecasting suggestions.

Excel for Financial Forecasts and Projections

It is impossible for us to predict the future with 100% accuracy. Forecasting financials requires a lot of time and work, but it also requires some business intelligence and creativity combined with the experience of what's worked before in similar situations. There are many tools that can forecast financials accurately, but not all of them are accurate or appropriate for every company or person doing forecasting.

How are Financial Projections Made?

Projections are usually made in 2 ways:

Historical Data Analysis:

This is where you use your past data to evaluate the future. You do this by looking into the past and then figuring out what and how it will happen in the future.

 By comparing financial statements over time, you can discover existing trends,analyze the findings and build better strategies. This type of financial forecast is also a budgeting tool that estimates information based on historical and current facts.

 This will aid in identifying future revenue and expenditure trends that could impact government policies, strategic goals, or community services in the short or long term. You will understand what has been successfully working for a longtime and what needs to be immediately stopped to prevent any damage to the company.

Creative Forecasting:

This is when you create a projection with your imagination and creativity, without any knowledge about what has happened in the past and what will happen in the future. You can predict the financial strength and outcomes the business idea can give. You can forecast the number of sales the product can generate;moreover, you predict the revenue growth and capital expenditure.

 Not only this, but you will also have a better understanding of the company's overall growth structure. One can determine forecasts of your cash inflows and outlays, income, and balance sheet. Additionally, if you are willing to get funding, this is a great way to start.

 Projections need to be clear, simple, and easy to understand. This is important for both the project stakeholders and others who might want to know what's going on with it.

 The projection also needs to be flexible enough to accommodate changes throughout the project timeline. It should be at a high enough level so that people can easily read it without too much detail but not too high level so that they miss important information about how things are progressing at a higher level.

Conclusion

To conclude, forecasting is an essential part of the business operations of any organization. It helps in predicting future events and making decisions based on them.

However, there are also some risks involved in forecasting due to the inherent uncertainty in the future. One way to combat this risk is by employing a robust forecast model which can handle uncertainty well.


Niclas Schlopsna
Co-Founder of spectup
Niclas is the founder of spectup. Before founding his own company Niclas worked as a Consultant Venture Architect within Deloitte's Innovation and Ventures unit. Additionally, he has gained valuable insights and experience from banking, startups, and corporate groups.
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