Financial forecasting can be daunting for even the most experienced business leaders, but the past few years have made forecasting particularly difficult. The pandemic, supply chain disruptions, surging inflation, and recessionary concerns have rendered traditional forecasting methods less reliable. Yet it's still important for financial leaders to prepare credible forecasts for developing strategy, allocating resources, and setting internal performance targets.
Let's explore practical strategies for improving business forecasting for 2023 and beyond.
Separate compensation from forecasts and budgets
Many organizations base compensation decisions on budgets and forecasts. While this may seem like a good way to encourage managers and departments to work hard or maximize profits, it can also influence departmental heads to sandbag their numbers, ensuring they've baked enough fat into the budget to comfortably hit their numbers.
By separating compensation decisions from forecasts and budgets, you help ensure the organization's financial health isn't compromised by decisions made solely based on compensation.
Understand your business's primary drivers
Drivers in an organization are the key inputs and activities that drive operational and financial results. While the primary drivers vary by organization, they might include sales leads, retail square footage, traffic volume to a website, number of salespeople, or other metrics.
Understanding your company's key business drivers allows you to forecast business performance based on the key levers most impactful to your business rather than assumptions. They're a better basis for forecasts because they're elastic—and often levers you can pull to influence performance.
For example, if you identify sales headcount as a primary driver, you know that each new salesperson you hire will increase revenue. You directly control the input (hiring) to generate an output (revenue), which leads to more reliable forecasts.
Use rolling forecasts to stay on top of trends
A rolling forecast uses historical data to predict future numbers continuously over time. For example, if your rolling forecast covers 12 months, as each month ends, the numbers recorded that month are used to add a new month to the budget—when January 2023 ends, you add January 2024.
While historical data can be tricky in times of disruption and rapid change, rolling forecasts are more agile than static forecasts because they’re always looking into the future based on the most recent data available. This allows you to adjust plans and strategies in real-time as conditions change, which is especially important in today's environment, where changes happen quickly and without warning.
Work with accurate and timely data
Having accurate and timely data is essential for financial forecasting. After all, your forecast is only as good as the data you put into it.
Work with up-to-date information that reflects the current market conditions and economic trends. This information might come from primary sources, such as data collected in your accounting software, CRM, or other reporting tools, and secondary sources, such as published data, such as government reports and economist predictions.
Use scenario planning to consider the impact of uncertainty and variability
Scenario planning is a powerful tool to prepare for the uncertainty and variability of financial forecasts. It involves creating multiple "what-if" scenarios based on potential events or external environment changes.
For example, suppose you've identified the price of raw materials as a primary driver. In that case, your scenario planning might come up with a best case (prices remain stable), likely case (prices will increase slightly over the next 12 months), and worst case (inflation and supply chain shortages drive prices up dramatically).
By looking at all the possible outcomes of an uncertain situation, you can better prepare for and anticipate any potential risks or opportunities.
In uncertain times, it's crucial to ensure that financial forecasts are up-to-date and relevant, no matter how quickly the economic landscape changes. If you're feeling unsure of where to start, connect with a member of our team. We have the experience necessary to help your company stays agile in an ever-changing market.
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