Tag Archives | forecasting

Why Prepare a Budget?

Do you need to take an umbrella to work today?

Without a trusty weather app or friendly meteorologist, it would be difficult to know the answer. Fortunately, you probably have one of these tools to help you make an informed decision.

The CFO/Controller is the meteorologist for the business.  It’s your job to help the company decide when, and if, you’ll need an umbrella.  How do you do this? Prepare a budget.

prepare a budgetWhat is a budget?

A budget is an estimate of income and expenses within a given amount of time. It contains economic goals, boundaries, and limits on expenditures of the organization.

Why Prepare a Budget?

So, why prepare a budget? By creating a budget, you’ll be able to hold the company accountable for its expenditures, reduce costs, and prepare for a worst case scenario. It serves as a measurement tool that can visually illustrate if you have enough cash to operate or to grow.

The steps in the budgeting process are:

  • Prepare the budget
  • Negotiate and agree on the budget
  • Monitor the budget

Prepare a Budget

First, you as the financial leader must choose what type of budgeting method you want to use. There are two main types of budgets: zero-based budgets and traditional budgets. While zero-based budgeting allows you to re-examine all of your costs, traditional budgeting is more user-friendly.

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Typically, prepare the annual budgets before the fiscal year begins. This window of preparation helps facilitate execution.  Early decision-making will provide boundaries within which the company must abide. Oftentimes, if you don’t prepare budget ahead of time and create it on the spot, then arguments and internal issues begin to arise. You can avoid disputes when executing a budget by preparing early.

During preparation, it’s important to focus on fiscal targets. Fiscal targets are are goals for specific financial categories. These could include profit, debt payback schedule, operating expenses, projected borrowing requirements, etc. By laying out these goals, you’ll be better equipped to prepare a budget that will allow negotiating and finalizing of the budget to go smoothly.

Optimistic Budgets

prepare a budget

As a reminder, an overoptimistic budget can result in late payments and disorderliness in regards to keeping in compliance with the bank. There are several ways you could be overoptimistic in your budget, the major one being you are not projecting your sales correctly. If you’re a couple cents off, it’s okay.  A budget should be seen as a “set of guidelines, not rules, based on the best forecasts at the time but always open to amendment as circumstances warrant” (Accounting at Your Fingertips, p. 332).

To reduce the chances of creating an overoptimistic budget, it’s important to go back to the basics. By focusing on the economics of your business, you’ll not only create a realistic budget, but you’ll be better able to project future growth.

(NOTE: Want an easy tool to analyze your company’s economics? Download the Know Your Economics Worksheet to make sure you’re pricing for profit!)

Negotiate and Agree on the Budget

As with most things in business, negotiation comes into play.  The purpose of negotiation is to allocate resources according to your targets and policies with everyone’s best interest in mind.  However, fiscal policies should provide the framework for budget formulation. Make sure that you consider your company’s economics when structuring the budget.

During this negotiation process, it is vital for you as the financial leader to maintain the meeting as a negotiation rather than let the meeting turn into a bargaining session. Bargaining results in a win-lose situation where the goal is to get as many of your points on paper over another person or department. It may drive the process, but it is not effective. Often, the outcome of bargaining is inefficient resource allocation.

By comparison, negotiation is all about a group of people working towards one goal. Part of this goal should be to comply with fiscal policies and targets.

Monitor the Budget

So much time and hard work goes into creating a budget, yet so many companies fail to utilize the budget. The purpose of a budget is to measure operational efficiency and performance issues.

The efforts of budgeting should be focused on improving revenue forecasting or projecting. A budget is useless unless utilized in a dynamic manner. While budgeting provides the short-term execution plan, forecasting allows you to take historical data to measure the reality of success in executing your budget. You’ll be better able to allocate resources to the right departments.

(Check out the 5 tools that you might not be using but should be implementing along side your budget.)

When you link the budget and the forecast, you’ll be more equipped to monitor the budget.  Contrast this with a static budget that is often useless after the first month. It all starts by knowing your unit economics and then assessing your economics to judge whether they are working for your company.

To ensure that your budget is built to achieve your business goals, make sure to start with the basics. Find out more about how you could utilize your unit economics to add more value to your organization by clicking the link below.

prepare a budget, Why Prepare a Budget

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prepare a budget, Why Prepare a Budget

There are many methods you can use to improve productivity in your company. Click here to download a PDF of 10 Ways a CFO Can Improve Productivity.

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What You Should Know About Preparing a Forecast

Ready or not, it’s time to start the process of preparing your 2016 forecast.  While it may seem a bit premature, a walk down the aisle of your favorite home improvement store to check out their (already) prominently featured holiday displays tells the story.  Some of this can definitely be attributed to overzealousness to capture the consumer’s holiday dollar. But it drives home the point that 2015 is winding down. It’s time to start thinking about 2016.

3 Things You Should Know About Preparing a Forecast

So what should you keep in mind when preparing your 2016 forecast?  In the video below, Jim talks about 3 things you should know about preparing a forecast.

According to the video, the following 3 things are important when it comes to preparing a forecast:

Be Reasonable

If you choose to include pie-in-the-sky numbers in your forecast, then you’ll lose credibility. You won’t be able to excite your team about helping you achieve unrealistic goals.  If you paint too bleak a picture, you’ll lose motivation and won’t be able to effectively drive action toward goals.

Involve as Many People as Possible

While it’s true that the responsibility of preparing the forecast usually falls squarely on the shoulders of the CFO or Controller, it’s necessary for all departments to get involved in the process to create the most realistic plan possible.  Not only will you end up with better numbers, but sharing the ownership of achieving company goals spreads the burden to everyone.  People are more willing to be held accountable to numbers they understand and had a hand in producing.

Make it Dynamic

Now that you have the forecast prepared, you can put it in a drawer and forget about it, right?  Wrong.  In order to make all the time and effort you put into preparing the forecast worthwhile, it needs to be a living document.  Static forecasts are only realistic for a couple of months, at best.  Dropping in actuals and adjusting future estimates based upon conditions on the ground create a much better tool for running a business than one that ceased to be relevant months ago.

Check out our article Cash Flow Projections for more info on how to prepare a forecast.

If you need help creating an accurate forecast, then download our free Goldilocks Sales Method whitepaper to project accurately.

Preparing a Forecast

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Preparing a Forecast

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Percent-of-Sales Method

See Also:
ProForma Financial Statements
Cost Center
Weighted Average Cost of Capital (WACC)
Standard Costing System
Activity Based Costing vs Traditional Costing

Percent-of-Sales Method

The percent-of-sales method is a technique for forecasting financial data. When forecasting financial data for strategic planning, budgeting, or for developing pro forma financial statements, analysts can use the percent-of-sales method of forecasting to create reasonable projections for certain key data.

The idea is to see how a financial statement account item relates historically to sales figures. Then use that relationship to project the value of those financial statement account items based on future sales estimates. This method of forecasting requires the items to be estimated based on relations to sales figures, thus it is necessary that movements in the items to be forecast are highly correlated with fluctuations in the sales figures. Forecast that item using a different technique; especially if there is no clear correlation between the item to be forecast and sales figures.

For example, if, after examining and analyzing historical financial statement data, an analyst determines that inventory levels are typically at 30% of sales. Additionally, the sales forecast for the coming year is for $100,000 dollars in sales. Then according to the percent-of-sales method of forecasting, the analyst can estimate inventory of approximately $30,000, or 30% of the estimated sales figure.

If you’re still not sure how to accurately project your sales, click here to access your free Goldilocks Sales Method tool. This tool allows you to avoid underestimating or over-projecting sales.

Three Step Process

There are three steps in the percent-of-sales forecasting process. First, use the sales figures to identify the correlated items. Then separate the uncorrelated out. To do this, analyze historical financial statement data. Only the items which are correlated with sales figures can accurately be predicted or forecast using the percent-of-sales method. Estimate items that have no concrete relation to sales figures using a different technique.

Next, forecast sales for the fiscal period in question. Because all projections in the percent-of-sales method of forecasting depend on relationships between financial statement items and sales figures, it is very important to get an accurate sales forecast.

The third step in the percent-of-sales method of forecasting is to forecast the values of certain appropriate financial statement items. You can accomplish this by using the sales forecast from the previous step in combination with the historical relation between the financial statement item and the sales figure.

Percent-of-Sales Method

1. Analyze historic financial statement data
2. Forecast sales for the fiscal period
3. Forecast financial statement items using sales forecast

If you need help creating an accurate sales pipeline, download the Goldilocks Sales Method.

percent-of-sales method

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Pledged Collateral

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Forecasting in Accounting

See Also:
ProForma Financial Statements
Cost Center
Weighted Average Cost of Capital (WACC)
Percent of Sales Method
Standard Costing System
Comparison Analysis
Budgeting vs Forecasting

Forecasting in Accounting

Forecasting in accounting refers to the process of using current and historic cost data to predict future costs. Forecasting is important for planning purposes – it is necessary to estimate and plan for costs that will be incurred prior to actually incurring them. There are several common tools and techniques used for forecasting in the field of cost accounting, including the following:

Budgeting

Budgeting is the process of preparing a budget in order to plan for revenues and expenses in an upcoming fiscal period.

A budget has five primary objectives. These include the following:

  1. Planning for the upcoming fiscal period
  2. Facilitating coordination and communication of these plans throughout the organization
  3. Allocating resources within an organization
  4. Managing financial and operational performance during the fiscal period
  5. Evaluating performance and providing goal-based incentives to management and other personnel inside the organization

Budgets are prepared using current and historic data and estimations about future trends. Budgets can also be prepared using the traditional method or the zero-based method. The tradition method of budgeting typically uses the previous period’s budget at a starting point for the upcoming period’s budget. The zero-based budget method essentially requires starting from scratch each period.

High-Low Method

You can use the high-low method is a technique for cost estimation in forecasting. It is a rather simple technique and it is less accurate than more sophisticated cost estimation techniques, such as regression analysis.

Using the high-low method requires having a set of data relating costs to cost-driver activities. You take the highest cost and the highest cost-driver activity level and the lowest cost and the lowest cost-driver activity level from the data set. Then use these four pieces of data to calculate the slope of the line that connects the two points. Finally, you compute the intercept using the slope and one of the points. This gives you the high-low cost equation for that particular cost-incurring activity.

Regression Analysis

Regression analysis is a method of relating a dependent variable to an independent variable. The analysis essentially computes how much of the variance in the dependent variable is due to variations in the independent variable. Regression analysis requires having a set of data for both the dependent and independent variables. The best way to do a regression analysis is in a computer program.

Regression analysis can be either simple or multiple. Simple regression analysis uses one independent variable and one dependent variable. Whereas, multiple regression analysis uses several independent variables and one dependent variable. The result of a regression analysis is an equation that can be used to forecast costs based on certain estimates of independent variable activity.

If you need help creating an accurate forecast, then download our free Goldilocks Sales Method whitepaper to project accurately.

Forecasting in Accounting

Strategic CFO Lab Member Extra

Access your Flash Report Execution Plan in SCFO Lab. The step-by-step plan will help you manage your company before you prepare your financial statements.

Click here to access your Execution Plan. Not a Lab Member?

Click here to learn more about SCFO Labs

Forecasting in Accounting

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Budgeting vs Forecasting

See Also:
Forecasting
Comparison Analysis

Budgeting vs Forecasting

The budgeting vs forecasting process has been a good discussion between financial professionals. The argument of whether they serve the same purpose or if one is better than the other has lead to some interesting debates. The term has been used several times interchangeably. However let’s explore why this is incorrect by identifying the budget vs forecast difference. When it comes to planning and grading the company’s financial health, they are both tools that can be used by companies. Their managers to do just that. However, the proper way to use them both is in concert with one another and not particularly as a substitute for one another.

Budgeting

What is budgeting, definition-wise? It is the process used to compose a plan or create an estimate during a prior year or at the beginning of a current year to help manage and control the income and expenditures of the company for that year. Some have even defined a budget to be a road map or financial guide that recognizes the income of the company, while detailing the expense allowances with a not-to-exceed expectation for that given year. Now let’s examine the definition of forecasting to compare the differences between the budgeting and forecasting process.

Forecasting

Forecasting is another financial tool commonly used to help determine the financial status of a company. The meaning of financial forecasting is quite different from that of budgeting. Where the budget is used as a financial planner, the forecast uses this plan and compares it to the current financial direction of the company. They do this to predict where the company will end up by the end of that year. In other words, use the forecast to see if the company will meet or exceed the expectations from the budget allowing the managers and controllers to set future goals. They also use forecasts to identify trends that are used to grade the company’s financial position. They both seem to be very resourceful tools. Instead of comparing financial forecast vs budget, the more important discussion should be which tool is more effective.

Which is More Important?

So which tool in the financial forecast versus budget debate is more important? Let’s answer a few questions first. Can a business run productively without a budget, a plan of action for each year? Some do. However, to run a successful business without monitoring your financial status throughout the year to predict its financial grade by the end of the year can be very difficult. Budgeting can be a good tool to use to help plan the future of the business; however a greater predictor of future behavior is past behavior. The purpose of investing time to create a financial forecast is to predict the future based upon certain assumptions. In addition, use the past to defend those assumptions. Both tools are necessary for a business to be successful. In short, a budget sets the company’s goals while a forecast defines its expectations.

If you need help creating an accurate forecast, then download our free Goldilocks Sales Method whitepaper to project accurately.

budgeting vs forecasting

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Access your Flash Report Execution Plan in SCFO Lab. The step-by-step plan will help you manage your company before you prepare your financial statements.

Click here to access your Execution Plan. Not a Lab Member?

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budgeting vs forecasting

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FP&A Innovation Summit Discount

The Strategic CFO has secured 10% off delegate passes for the FP&A Innovation Summit taking place in San Diego on February 20 & 21. With speakers from Microsoft, Paypal, Etsy and many more the Financial Forecasting & Planning Innovation Summit San Diego is an ideal opportunity to discuss best practices with other FP&A professionals.

FP&A Innovation Summit

View the event overview here.

Confirmed speakers include the following:

– Chief Financial Officer, Unilever
– Associate Director, Corporate Finance, Procter & Gamble
– Executive Director, Finance & Administration, Esteé Lauder
– Executive Director, Business. Sony Electronics
– Chief Financial Officer, Harry and David
– Vice President, Finance, Etsy
– Vice President, Finance, Barnes & Noble
– Senior Vice President & Chief Financial Officer, ALM Media
– Vice President, US Finance, Starbucks
– Senior Vice President & Interim CFO, Vertis Communications
– Director, Finance & Operations, Nike Foundation
– Senior Director, Finance, PepsiCo
– Head of Analytics – Core Payments, Paypal
– Chief Financial Officer, Imagem Music

Download the brochure with presentation titles and the most up-to-date speaker lineup here.

FP&A Innovation Summit Discount

To reserve your place, contact Rose Palmer or register online using the 10% FP&A Innovation Summit Discount Code “STRATEGICCFO2013”.

FP&A Innovation Summit Discount

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Budgets and Forecasting

The holiday season is upon us and the New Year will be here before we know it. For most business owners, this is also the season of financial planning and budgeting for 2013. Some have even gone through the budgeting and forecasting process to be better prepared for the upcoming year. But have you ever wondered about the necessity of doing both a budget and a forecast? Do you even know the difference between budgets and forecasting? Often, the terms are used interchangeably.

Budgets and Forecasting

While this topic has often been the subject of debate, the budget and forecast differences are actually very clear. The success of any business is dependent upon the handling and management of the finances. This is exactly why knowing the relationship between these two important tools is not only useful in planning for the future, but is also excellent for keeping the business moving forward throughout the year. Here’s an excerpt from wikicfo.com highlighting how budgets and forecasts are different, but how both can be very useful tools for business owners and key decision makers when it comes to the financial planning of the company

Budgeting can be a good tool to use to help plan the future of the business; however a greater predictor of future behavior is past behavior. The purpose of investing time to create a financial forecast is to predict the future based upon certain assumptions while using the past to defend those assumptions.

Read the full article here.

If you need help creating an accurate forecast, then download our free Goldilocks Sales Method whitepaper to project accurately.

Budgets and Forecasting

Strategic CFO Lab Member Extra

Access your Flash Report Execution Plan in SCFO Lab. The step-by-step plan will help you manage your company before you prepare your financial statements.

Click here to access your Execution Plan. Not a Lab Member?

Click here to learn more about SCFO Labs

Budgets and Forecasting

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LEARN THE ART OF THE CFO