Forecasting and budgeting are two of the most common financial tasks performed by business owners and their finance teams. Unfortunately, they are also two tasks that could often be performed much better than they currently are by most businesses.
In the traditional annual forecasting and budgeting process, department heads are asked to make projections for spending and revenue over the next year. So they make their best-guesstimate assumptions, dutifully crunch the numbers and produce a budget based on the results. The budget is then usually passed back and forth between department heads and senior management a couple of times for tweaks and adjustments before it is finalized and given the official stamp of approval.
But there’s one potentially very big problem with this traditional process: It doesn’t accommodate the inevitable changes that will occur in the assumptions after the budget has been put it place. In other words, it’s a static, not a fluid or dynamic, process. It can easily take several months (or even longer) to create a budget, which can then be out of date and obsolete almost as soon as it’s put into place.
Actual, Instead of Anticipated, Results
Some companies today are adopting a different kind of forecasting and budgeting process that’s referred to as rolling forecasting. Instead of creating a static annual budget that’s based on inflexible assumptions, rolling forecasting builds flexibility into the process by regularly updating the forecasts and budget based on what is actually happening with your finances and operations — not what you thought would happen months ago.
Rolling forecasting can result in a number of potential benefits to your company:
- Greater accuracy in your projections and budget.
- Improved business decision making with regard to spending and investments in your business.
- Elimination of the budgeting “games” that are often played between department heads and senior management.
- More flexibility to adapt to changes in business conditions and the overall marketplace.
- Improved ability to anticipate risks and opportunities in the marketplace and plan accordingly.
- The ability of your finance department to spend more time planning strategically, instead of reactively.
- Elimination of “use it or lose it” budget practices that often encourage managers to spend money wastefully.
How Rolling Forecasting Works
The concept behind rolling forecasting is fairly simple: Instead of creating a static annual budget that is inflexible until the following year, you will create a “living” budget that is updated on a periodic basis (usually quarterly) throughout the year. After each quarter, new forecasts are made for the next quarter based on current financial realities, and the budget is adjusted accordingly.
It’s important to note that rolling forecasts don’t replace annual budgets; rather, they make them more flexible and accurate. Let’s look at a hypothetical manufacturing company to see how rolling forecasting and budgeting might work:
ACME Manufacturing is forecasting a 20 percent increase in widget sales over the upcoming year, which will require spending $240,000 (or $20,000 per month) more in raw materials and inventory. At the end of the first quarter, though, a slower than expected economy has resulted in sales tracking about the same as the previous year, and this isn’t expected to change over the next quarter.
Using rolling forecasting and budgeting, the company can scale back its inventory and raw material purchases to a level that more closely matches what they actually need to buy. Using traditional forecasting and budgeting, they might have gone ahead and purchased the additional $60,000 in raw materials and inventory that were budgeted for the quarter even though they weren’t really needed.
A Smooth Transition
Here are 5 tips to help make the transition to rolling forecasting and budgeting go more smoothly:
- Clearly explain the rationale and benefits to all affected employees. Some managers and department heads may be reluctant to change, so make sure they understand how rolling forecasts and budgets will benefit everyone.
- Be consistent in how and when you update your forecasts and budget. Use the same tools and processes to make updates at the same intervals, whether these are monthly or quarterly.
- Stay focused on the key business drivers that are most relevant to your business. You want to avoid information overload by concentrating on the metrics and data that are the most critical for decision-making and analysis.
- Use software to help automate your forecasting. You can project different expense and revenue scenarios and see how they might impact profitability.
- Use the most recent data in your rolling forecasts. This requires creating internal systems that are capable of generating data that’s both accurate and timely.
To discuss forecasting and budgeting in more detail, give us a call at (800) 773-7100 or Contact us to request that a Relationship Manager contact you.