Forecasting is a valuable, sometimes overlooked, part of small business ownership. Business forecasting helps small business owners predict growth and identify where to tighten up expenses or work to expand sales.
According to Investopedia, forecasting is the use of historical data to determine the direction of future trends. If you’ve ever reviewed the previous month’s revenue to predict how much you’ll make the next month, then you’ve already started forecasting.
Forecasting can show how to allocate your budget or plan for anticipated expenses for an upcoming period of time.
Forecasting can be a great tool for many business functions including:
Although you’ll often see the terms “financial forecasting” and “budgeting” conflated, they’re not quite the same. Financial forecasting should precede budgeting since forecasting predicts future business profit or loss, and the expectations you define will guide your budget.
Only once you’ve finalized your financial forecast for a given period should you start budgeting, which is the process of allocating certain amounts of money to certain departments. For example, if you forecast $25,000 in revenue during Q1, you can budget $5,000 for one expense, $10,000 for another, and $10,000 for yet another. You can assign different budget amounts than these as long as your numbers add up to $25,000.
Learn more about budgeting via the SmartBiz Small Business Blog: How to Make a Business Budget.
Cash budgeting is a process of predicting cash inflows and allocating cash outflows for a specific time period. Cash budgeting relies heavily on accurate cash flow forecasts.
Up-to-date forecasts help you know when you can estimate cash will come in and go out, expected sales and expected profit. One of the main reasons small businesses fail is because they run out of money to spend on their costs. Forecasting correctly can help prevent this.
There are a number of different methods by which a business forecast can be made. All the methods fall into one of two overarching approaches: qualitative and quantitative. An easy-to-understand article outlining these approaches can be found on Investopedia here.
Three basic models of forecasting to consider are outlined here. A short summary of each is below.
To successfully use any of the above methods to create your financial forecast, you’ll need to take the following steps:
To get started, gather the elements you’ll need to build your forecast. Start by reviewing your company balance sheet that reports assets and liabilities at a specific point in time. Put together a list of last year's expenses along with the expected cost of proposed projects and promotions for the next year.
Once you have those numbers, follow these guidelines from the bizfluent blog:
When you’re forecasting, it’s important to consider factors that can impact your numbers. These include:
Keep in mind that forecasting is not an exact science. If you keep your forecasts up to date, you’ll be more likely to be prepared if something unexpected happens.
To improve your budgeting and forecasting practices, keep the below tips in mind:
You don’t have to go it alone during the forecasting process. Check out this list from Capterra to find software that can help: Top Sales Forecasting Software Products.
There are also a number of books that address this subject in-depth. Sales and Market Forecasting for Entrepreneurs from business expert Tim Berry is a comprehensive, easy-to-understand guide.