Companies rely on forecasts to plan budgets, estimate staff needs, organize their supply chains, and more. Here's how to improve your financial forecasting.
Forecasting has long been more of an art than science, relying on historical cash flows, expected transactions, and sales and collections projections. Unexpected events regularly impact the results, and achieving near accuracy is a goal—but often a lofty one.
Even so, companies rely on forecasts to plan their budgets, estimate staff needs, organize their supply chains and much more. Fortunately, there’s a host of new technologies and best practices that can elevate your forecasts this year, improving their accuracy and usefulness.
Follow these four tips for creating financial forecasts that reflect reality and provide information that helps your business plan for whatever comes your way.
1. Get Your Forecasts Rolling
Financial analysts and professionals know that no matter how hard they try to account for what’s to come, volatile markets and unexpected opportunities always pop up. While you can’t plan for these, you can assume that something will happen to knock your forecast off track, for better or worse. That's why you want to build in buffers that account for the unexpected.
In addition, trying out a rolling forecast model is a smart move. It gives you the opportunity to update and adapt budgets to events at hand, and then reconfigure forecasts to reflect real-time events. Rolling forecasts present an alternative model to static budgets and annual planning, offering organizations a way to spot trends sooner and ultimately be more proactive about financial issues before they become large problems.
2. Find Better Metrics
Accurate forecasts rely on using both historical performance as well as current drivers and trends. However, in many cases, organizations put too much stock into the wrong metrics—and derive limited information from their data. To ward against this, dig into KPIs to examine how each connects to the other, and how they inform performance. For example, businesses often track Sales Qualified Leads and determine a ratio that predicts how many sales may come through in the future. If it takes 30 leads to convert to one sale, then you know about how many sales are in your pipeline based on the number of SQLs.
Conversely, measuring visits to the website or sales calls made may be less indicative of sales conversion and lead to inaccuracies in your forecast. Try to uncover which metrics in your organization directly inform its financial position, from employee trips planned to contractor spend to SQLs. And jettison metrics that have a loose correlation in favor of those that truly report on results.
3. Rely on Real-Time Data
Historical data provides a critical piece of information. But checking that against real-time data offers valuable context, especially for companies that are growing fast and experiencing rapid change year-over-year. If you’re looking at accounting software, prioritize solutions that provide up-to-minute views of transactions, and incorporate bank feeds and information from various accounts.
Also, track other places that real-time information lives. For instance, expenses may be registered by a corporate card in real-time. Consider other areas that may inform your view of finances such as data headquartered in spreadsheets, Google docs, and emails. Ensure that your colleagues are inputting that data into your accounting software on a regular basis.
4. Revisit Your Forecast Early and Often
Once you’ve created a forecast, come back to it often to see what you got right—and even more importantly, where you went wrong. Revisit the areas that didn’t work and consider:
- Was it a problem with the data? Look into whether the figures used didn’t correlate to performance in ways you anticipated and review if you overestimated or underestimated the results of a specific project.
- Is your forecasting time period appropriate? In some cases, a forecast period may not be enough time to realize the projected results. And a too long period doesn’t provide enough notice when things are going awry.
- Are there other factors at play? Did something unexpected impact your forecast, and if so, was it a one-off event or something to now weave into future analyses?
Financial forecasting is a vital component of your planning and budgeting process. Tuning and then fine-tuning your financial forecasts is part of the process. The more you examine and revise your data, the better and more accurate your forecasts will be, and the rest of your business will benefit as a result.