January 27, 2022
Niclas

Using Financial Forecasts and Projections for Planning

The use of projections and forecasts can be a powerful tool in business. However, there are some clear advantages and disadvantages to using financial projections that businesses need to be aware of.

5 minutes reading time

Article Contents

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

What is a Financial Forecast/Projection?

The process of 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. Projecting can be used to predict what countries' GDP will be in 2020 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' projections in order 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 
  • A quantitative forecasts are those that use statistical data and math.
 two types of forecasts

Quantitative forecasts can be used as an input for 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 your industry.

Why should a company use a financial forecasting/projection?

Forecasting gives a company the opportunity to plan ahead and take the necessary steps to avoid any potential problems.

It is more than just guessing, it is about looking at data and interpreting it. It can walk us through some of the mistakes that 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 of revenues for certain periods. Projections are used when looking back on past data to see if it matches up with expectations.

Forecasting is important because it helps you to 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 projections alone.

How Financial Forecasts are 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.

  1. What is your forecasting horizon?

The length of time in which you plan to forecast for 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.

  1. How do you collect data? 

Data can be collected by looking at historic data, analyzing trends, or by estimating based on new forecasts that have been made during the same time period

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 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 Projections are Done

Projections are usually done in 2 ways:

  1. 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 figure out how it will happen in the future.
  2. 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.

Projections need to be clear, simple, and easy to understand. This is important for both the stakeholders within the project and any other people who might want to know what's going on with it. The projection also needs to be flexible enough that it can accommodate changes that happen 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.

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