This is the final post in a long MBA Mondays series on projections, budgets, and forecasts. Today we will talk about what happens when reality starts to differ from what you've budgeted – you re-forecast.
Let's go back to the framework I laid out at the start of this series. Projections are long-term high level efforts to establish the scope of the opportunity. Budgets are an effort to establish an operating framework for the coming year. And forecasts are done intra-year to establish what is likely to happen. As someone said in the comments, it's "long term, short term, and real-time."
Forecasts are typically done mid-year but they can and should be done whenever the actual performance differs significantly from what was budgeted. Forecasts are not an attempt to throw out the budget. The company should continue to measure itself and report against the budget. The forecast should exist beside the budget and show what management thinks is likely to happen.
Forecasts are important for a variety of reasons but first and foremost you want to know where your cash balances will actually be. And you'll want to know where you will be on your revenue growth trajectory. If you are planning on doing a financing, forecasts are important because they will give you an indication of what the metrics investors will be using when they offer you terms for a financing.
The process of doing a forecast is not very hard. You simply take the model you used for budgeting and put new numbers in for revenues and costs. The way most forecasts go down is the revenues are taken down to reflect slower sales growth. Then management looks at the costs in the budget. In some cases, costs are not adjusted because management feels that they need to continue to invest in the business. But in many cases, costs are adjusted down somewhat to reflect a desire to conserve cash. Either way, you'll have a new set of numbers for the months ahead.
You combine these new sets of numbers for the coming months with the actual results for the months that have already happened and you have your forecast.
Once you do a forecast, it is a good idea to keep updating it as the year develops. If you do a forecast at mid-year and by the fall that forecast is off, do another forecast. The forecast is not another budget you have to try to meet. It is an attempt to estimate actual results. So keep adjusting the forecast in an attempt to nail it.
As you get into the fall, you will start budgeting for the next year. Use the learning that came from the forecasting exercise to make next year's budget better. Think of budgets and forecasts as agile financial management. The budget is the annual release and the forecasts are the iterations based on feedback.
So that's it. We are now done with projections, budgeting, and forecasting. Next week we'll tackle a new topic.
It seems to me that forecasting is really just guessing… I guess I subscribe to the 37 Signals mantra in this regard. I still don’t see much of the value in doing it. My 2 cents.
it is far from guessing. it’s the most educated and informed of the three kinds of projections businesses make
I think if you’re not looking far enough into the future to need these numbers, and using them to decide your path (whether it’s adjusting it or sticking with what is working), then are you taking your business seriously enough? Maybe certain business models aren’t complex enough to need this… but if you advertise at all, if you have consumer flow at all, if you have business flow at all, if you advertise at all … the more numbers you know the more efficiently you can measure things, and put resources and money where it has the greatest effect. I’m not a pro at this myself, and when I try to put together spreadsheets my brain starts to go bonkers, because I know what I want to track, I just don’t know how to do it well on a spreadsheet.. but I know why the information I’m wanting is valuable, and where it will come in use. That’s why I need full-time smart people along side to fill in those areas so I can focus on what I enjoy and excel at.. Possible negative side to tracking these details? If you don’t know what they mean, their implications of the specifics, or you make wrong assumptions and you make adjustments based on that then you could end up off course temporarily.. I’d rather think I’m psychic than be blind and assume the road stays on a 13 degree curve..
Was good to meet you yesterday.
Ditto!! It’s cool to put physical entities to all this text-based jazz..Second time being around Fred – I think he might be cool enough to let into our club Paramendra..
Budgeting and ‘re-budgeting or forecasting or updating your budget’ are necessary evils to run a business. They are the road map from whence you will vary as reality intrudes upon your dream.Nonetheless, even in the most fluid situation the balance between fixed and variable costs is a worthwhile discipline to embrace. You will be surprised to see how much is really fixed or is variable in a very narrow range.You do not have to do it, but you should. It’s like eating your vegetables. You know you should be doing it.
Well said.The post is indisputable. Like motherhood and apple pie.So while there’s not so much to discuss, it will be referenced as part of the AVC-MBA compendium.Either that, or people are playing hooky in the nice weather, or even worse….doing actual work.
I wouldn’t even call it an “evil” JLM – our goal is to approach repeatability – understanding what makes your product sell over and over. Market forces, competitors, and others will have an impact on this, so it makes sense to review it as often as practical to make sure your “formulas” still work. Once they work, it’s a beautiful thing. Until they do, you don’t have a successful and repeatable sales process.
If forecasts are “real-time” then “Forecasts are typically done mid-year…” is probably too slow. The “keep updating” and “agile… iterations” suggestions are more helpful ways to think about it. The most important thing when it comes to forecasting is that you are looking at cash, not revenue. No matter your accounting methods, for most businesses the amount of cash on hand is _the_crucial_thing.Therefore at least every month (before end of the month payroll) you should look at how much cash came in, how much is going out, and how much will be left over. Then you can look forward for the next month and the rest of the year. Ask yourself “How can I get that company to pay me more promptly?” “How likely is that contract to close so I get more cash in 60 days?” and “Do I have to look for other sources of cash besides my ongoing operations?”The good news is that for most sized companies (under $5m in revenues) this stuff is easy. Cash is the CEOs main job, no matter where it comes from. You should know how much you have and where you are going to get more at all times.
Great point. The focus on cash is crucial for small business, which is why we actually reforecast cash on a weekly, and sometimes daily, basis. This is done alongside our P&L budgeting process which is performed monthly once actual results are finalized by our back office.The monthly actuals are compared against plan and any significant variances are investigated to determine if the budget should be updated. One month aberrations are typically ignored, but if we see significant moves over a quarter, then the budget will be adjusted to reflect current market conditions.This way we have real-time data that feeds into our 6 – 12 month forecast.
If we can use this metric and come up with a platform that does forecasting on a realtime basis, then I’m sure a lot of companies, despite the size, would like to use it.
Much about forecasting or revising your budget — same thing — is in the manner in which the model is originally created.If you document all of your assumptions on a separate worksheet for the original model and resist the temptation to just “plug in” a number from time to time, then as reality materializes you can just hit a button and the model will refresh itself.When you get really slick, you can make a pivot table from your accounting system directly to your budget model though I think there is a fair argument that getting a bit of paint on your hands adds context.I like to have budgets done long before year end on a bottom up basis (zero based, never incremental) and then tested by the actuals from the current year in which the budget is being crafted. I like a last minute CY or FY gut check before printing.Then I like to have the CFO update the forecast every month — remember it just requires changing the assumptions and we do this w/ a pivot table — and have a bottom up look at the end of each quarter for the balance of the year.When I look at financial performance I have prior year month/quarter, prior month/quarter, 12-month trends and forecasted month, quarter and year. I particularly like seeing information graphed as it makes the task more visual therby contemplating one’s natural analytical senses. This presents a fairly good picture of things and it provides a 360 degree view.The tough thing is getting it set up correctly. As your business matures and it becomes fairly predictable, it gets boring and is no longer the hassle that it originally seemed to be.While many decry the difficulty of forecasting startups, the truth of the matter is that only about 2 revenue accounts and 7 expense accounts fully describe the entire business in enough specificity and detail to make good numbers. While they may swing greatly, the focus on this few accounts is a good thing. It may actually get a lot more difficult in the future when much of the start up expediency decision making is absorbed into the business and is no longer in the rounding error.The entire process is an iterative process in which accuracy becomes significantly greater as you iterate and learn from doing.
A blog post.
Another epic one at that. I mentioned in the comments of my own blog, but Disqus could use an advanced content search (by user, topic, etc). We would manufacture JLM topical blogs with such a tool
I’m new here, just found this blog a few days ago, but I’m a big fan of these MBA monday posts! Thanks!
Fred runs a great daily blog, hope to see you in the comment sections regularly
That was one great MeetUp yesterday, Fred. Thanks. http://technbiz.blogspot.co…
I just got turned onto this blog via LIfehacker. Thus far I love what I am seeing. I look forward to reading on a daily basis.Scottwww.thebloggingaccountant.com
really nice sharing thanks admin!!
Great post. I’m always amazed at the number of people who confuse budget with forecast. Budget is what you thought you were going to do this year in November/December. Forecast is what you think you are going to do right now.The only interesting question you didn’t explore was confidence. For example, if providing a range in forecast, what confidence interval should it be? If providing a point, what should the odds be that you will come in above it? More interesting, if you forecast the sample number every week (e.g., quarterly bookings) what is the ideal shape of that curve over time?Cheers/Dave
What happens when your forecast and projections differ widely (both in some sort of positive direction and negative direction)? What should you do? (It could happen)I know you brought up KPI in midsized companies. Why don’t you use them in really small ones?How do you develop and choose your KPIs?
If the co is really small it’s not really operating yet — it’s developing is initial product to get it out the door. KPIs pretty much measure operations, and there are no operations to measure yet.The KPIs in that case are more like milestones…..did they release yet? Do they have a team? etc.. And then if product is released, what are the metrics around its growth….e.g. hit 100k users yet? How long did it take?
In an early stage start up I think an updated cash forecast should be monthly and included in the board deck.
Long time reader and fan, first time commenter. Fred – thanks for all of the hard work you do for your community here.It’s still MBA monday out here on the west coast and forecasting is one of my favorite financial topics with our CEOs. A few comments from what I’ve read in Fred’s post and in the comments1) I try to get an updated cash reforecast every month and have that in the board deck. In small companies that are burning money, cash is lifeblood and I am surprised how little some first time CEOs think about the levers that they have to affect if/when they will need to fund raise again2) I really like to forecast financial and a few key operating metrics – in addition to revenue, gross margin, opex, cash – it can be very useful to forecast the other key drivers like customer acquisition cost, number of leads, conversion or churn rates – if those have big swing factors in your model and if they are a focus of the company.3) One of the most useful tools to me for forecasting and comparing budget to reforecasts and is a waterfall chart. I typically use a series of them, one for each key metric we want to track at a mgmt or board level. It’s simply a table in excel (usually) that has a budget row and then the rows below are one cell of an actual for a given month and the rest of the row below is the forecast. As you move down the table you can actually trace how well you forecast and what in your model is predictable and what is hard to forecast. it is a great reporting and learning tool for me. I’ve tried to paste a text version below but I am sure the formatting will not hold. Happy to email an excel sheet to anyone who wants one.OPEXCY 10YTDYTDYTD VarJanFebMarAprMayJunJulAugSepOctNovDecRolling FCActualPlanto Plan274267295318340351372365365384379489419827426729531834035137236536538437948941982742740231294363373370394386386405400510411250554135 285.04304673103423683873773773973925024237790835.545 34236838737737739739250242371153.436838737737739739250242371493.538737737739739250242371844.737737739739250242372216.837739739250242372581.339739250242372945.839250242373329.650242373708.442374197.7
Another great post, thanks FredAgree with some of the comments below – re-forecasting is a continuous process. Should be done monthly for the board pack and the controller/CFO should be updating weekly in a cash conscious start-up.
Are evils. What are the road map you will vary as your dream.Nonetheless, the more fluid state of balance between fixed and variable costs in a meaningful discipline to embrace the reality intrudes. You see how much truth is fixed or variable in a very narrow range will be surprised.
the early bird gets the worm charlie
Agreed.Forecasts are more active than budgets cause they cover a shorter timeframe and are by nature, always being revisedAnd work as an expectation set for exec staff but as important as a working tool to manage the team. Individual MBOs, like increase leads and lower cost per lead… or drive a different balance between revenue and margin for the sales teams roll up into a forecast. It’s a tool that I used to share broadly across my teams.
Yep. This is where the rubber hits the road. What actions are you and your peeps going to DO, today and tomorrow, to make plan.And this is also where selecting the right (small set of) KPIs is so important.I’m recalling a story a few years ago where I happened to meet a seed investor in a biodegradable diaper company. I was a customer — a recently departed one. Anyway it was a mixer event and when I happened to meet this person I said, ‘Oh you invested in Company X?’ She said ‘Yes! They are sooo fantastic! They are right on plan! They are ahead of plan!’Thing is, I couldn’t replenish the product. I spent $100 buying into their “kit” and then couldn’t buy refill ‘cartridges’, either at Whole Foods (where I did my initial purchase) not online. It was at least a 2 week wait.Anyone who’s used diapers knows you absolutely cannot run out of diapers.And anyone who’s spent 5 minutes inside Consumer Packaged Goods knows that replenishment rates and retention of existing customers are critical Indicators to track. You screw them up and your knickers are in a twist very very quickly. This is CPG 101.Moms talk. Pediatricians talk to a lot of moms. Opinions on stupid products spread faster than strep throat, coxsackie or head lice.The lesson: your plan and your forecast must be used in conjunction with indicators that reflect understanding of the market you’re in and the customers you’re serving.
A perfectly logical and rational approach to evaluating the health of your sales operations.The redeployment of investment from under to over is the critical short term change.
If I could change just one thing about myself, it would not be Botox or a boob job.It would be to transform from a night owl into an early bird.Anyone got an app for that?Cheep cheep!
No I like chocolate
I could lend you our 3 year old for a few weeks, he’d make sure you were up nice and early
A ton of exercise in the day can give you deep sleep and can wake you up on time.
I’ve had issues with insomnia for a long time now. Saw a good article on y-combinator recently where a guy takes the circadean rythm/blue light business to a ridiculous level. Some of his tweaks might be helpful. I’m certainly going to try some. http://www.humbledmba.com/b…
Trust me I have 2 little roosters myself.Oh, I’m awake. Just not particularly functional.
Alarm clock, check.NPR, check.Two little girls jumping on top of me, check.Coffee, check.One cranky, bitchy Tereza…check.
forget the coffee, get right to the gym… nothing better to wake you up and start your day! I find I don’t need the coffee until after lunch if I work out in the morning…
Hello Sir. Was good to meet you yesterday.
You don’t have kids, do you?
Just so that I don’t sound like a total loser…I don’t sleep that late and I sleep very, very deeply. Never a problem for me. To me ‘sleeping in’ is 8am. That’s a treat for one day a week, Saturday.I spend 6am-8am and 6pm-8pm with my kids and try to keep that time sacred as much as I can….although reality is I’m also sneaking in email.But I can’t ever fall asleep before 11pm. And my highest productivity is 8:30pm-1am. The house is dark and quiet and I can crank. No interruptions. My creativity flies. It’s my time.One year for a New Year’s Resolution I vowed to have lights out every night by 10pm or earlier. I did it for a quarter. Each night I would stare at the ceiling for an hour until I would knock out at 11. All I got out of it was ~90 lost hours of work.It’s just how I’m wired.
I naturally pass out at 9-10pm, and wake 4-5am. A good friend of mine is nocturnal (his best sleep is between 7-10am). I’m not sure how much flex we have over our sleep habits, yours sound very effective though.
“And my highest productivity is 8:30pm-1am.”I actually relate to that.
Indeed my sleep is effective. Thankfully.So I’m not completely wacked out, just an hour or two off the optimal.There is a moral superiority that early risers dangle over late owls, which frankly, makes me jealous.Because I really want to be the morally superior one.;-)But none of that really matters in light of the truly big question here, Mark:HOW WAS YOUR HONEYMOON?????
I’m one of those types. It actually frustrates me intensely. However there are certain quiet activities (writing, coding, drawing etc) that I seem to do better late (ie after 3 pm) (and ideally in social environments)I think it may be partially a diet thing. when I live on my own with places with a kitchen and cook, I tend to wake up earlier….
And great to meet you as well.
See for yourself, messel.Posterous.comMichelle’s sleeping, we’re in Maui till Wed morning, then Bay Area California. We want to explore San Francisco, Yosemite, and the Silicon Valley area to get a feel for a new potential home (work depending)My soapboxhttp://www.victusspiritus.com
Yeah, I know that moral superiority!I’m also a night owl who would love to be an early bird. I wake up around 7am because I have to, but it’s a huge effort for me (no kids, so I use a few alarm clocks) and the really productive days are those in which I work till the sun rises. But people tend to think you are lazy if you are not working at 8am, so I don’t try to go against the current anymore. Also, I admit that if you have to interact a lot with other people, as I do, starting early is more practical and it’s worth the effort.
Trying to decide what’s more beautiful, Maui or the newly married couple. But the prize definitely goes to the newlyweds.Congratulations!!
Tough staying on topic, in a couple weeks for sure. Hey Charlie have you been to San Fran or SV, any must sees (people or places) while I’m there later this week?
How about nearby nature/hiking. I hear Yosemite is drivable (3hrs). My mom and bro said they had a Wonderful drive to Carmel so Michelle and I will goMy soapboxHttp://www.victusspiritus.com/
Or try Lake Tahoe this time of year. Picturesque.
Mark, I’ve been to SF a few times. If you like Victorian architecture Nob Hill is a nice place to walk around. North Beach area is quite cool. Not sure if you can still go to Alcatraz but I liked it! I also like Sausalito. If you like wine a trip to Napa is a must and if you want big outdoors then Tahoe is fantastic although I’ve only been in the winter.Hope your having an amazing time
I have never had kids. No. But how did you find out? I hope to some day. I was really popular with the kids of single moms at college. I am good with them.
Thanks Richard, appreciate your personal favorites