Companies use various financial tools to plan for growth. Usually, these tools include budgets and forecasts, which help companies with that plan. These tools allow companies to forecast the future. By doing so, it provides a reference for future activities. On top of that, budgets and forecasts also act as a control tool that can help regular operations.
With budgets and forecasts, companies can plan for the future. Usually, it includes identifying various areas and forecasting the activities for those. Companies can use several types of budgets to achieve that. Once prepared, companies use these tools for monitoring to compare actual results with them. Apart from that, these tools can play a critical role in helping companies grow and expand operations.
Both budgets and forecasts are significantly important parts of a company’s operations. Companies can also use budget forecasting to combine these tools for better results. However, these are more complex compared to their single counterparts. Therefore, it is crucial to understand what budgets are to study budget forecasting. After that, it is possible to discuss why budget forecasting is important.
What is a Budget?
A budget is a tool that allows companies to plan for various areas within their operations. In other words, it provides an outline of a company’s expectations from those areas. With budgets, companies can develop plans for the upcoming financial periods. Usually, companies prepare these budgets annually. However, companies may also create them for shorter or longer periods.
A budget essentially includes estimates for revenues, expenses, and other areas. With these estimates, companies can develop expectations for their future operations. Then, they can compare those estimates with actual results to control operations. Companies can take several approaches to prepare these budgets. In most cases, it involves taking an incremental approach. However, several other methods also exist to achieve it.
In simple terms, a budget allows companies to plan for future activities. For most budgets, it involves outlining incomes and expenses from operations. Companies prepare them for each department. Then, they combine those budgets to make a master budget. Usually, companies use historical information to prepare these budgets. In that case, companies increase past budgets by a percentage to achieve a new version. It falls under incremental budgeting.
Budgets can be short- or long-term based on a company’s needs. Usually, they prepare budgets for every business area, for example, projects, operations, etc. These budgets reflect a company’s future goals and plans for operations. In the absence of a budget, companies may not understand their objectives for the future. On top of that, companies create a plan for their resources for maximum utilization.
Overall, a budget is a tool that companies use to estimate future performance and activities. In most cases, companies prepare annual budgets based on historical information. This budget helps create an expectation for operations. Therefore, it can also be beneficial in monitoring and controlling activities. On top of that, budgets are crucial in allowing companies to plan better. Companies can use several approaches to prepare these budgets.
What is Budget Forecasting?
The term budget forecasting has limited scope in its use. While it’s not a financial term, several industry practices may fall under the term’s definition. Usually, it includes a mixture of budgets and forecasts to achieve a different result. Budget forecasting may not be a part of financial terms and concepts. However, it has garnered some attention recently due to its increased usage.
In most cases, a budget forecast represents a budget. As mentioned, companies prepare these budgets to estimate the extent of future activities. Therefore, it also acts as a forecasting tool. Budgets help companies predict their income, expenses, assets, liabilities, etc. These estimates then help in controlling and monitoring those goals. However, they do not necessarily constitute a forecast.
In some contexts, the term budget forecast refers to a forecast that takes inputs from a budget. Usually, it involves planning for the future for the upcoming financial period. However, companies do not prepare it from scratch. They use their existing budgets to prepare the forecast. In that context, it is similar to incremental budgets that take a similar approach. However, this term is not prevalent in usage.
A budget forecast uses historical information to produce a prediction of future activities. It differs from a budget, which summarizes the goals for the upcoming financial year. Similarly, budgets also provide companies with a financial reference for future decision-making. Instead, companies prepare budget forecasts to illustrate their plans. The intended users for both tools differ due to the objectives they help achieve.
Overall, a budget forecast is a term that usually refers to a budget or a forecast. However, it may also represent a forecast prepared based on an existing budget. These forecasts take a similar approach to planning as incremental budgets. While the definition may apply ambiguously, it still provides an idea of what the process involves. Essentially, budget forecasts provide a financial view into the future if a company follows its budgets.
Why is Budget Forecasting important?
Budget forecasting is of significant importance to companies. Although the term is relatively new and applied less, it can be critical to companies. As mentioned, it involves elements of budgeting and forecasting. Therefore, it gets the benefits from those tools. Nonetheless, some of the reasons budget forecasting are important include the following.
Help set long-term goals
Budget forecasting can help companies identify and set their long-term goals. By doing so, this tool makes it easier for companies to work towards those goals. A budget forecast also forces companies to forecast their cash intake and outtake, which it also sets. This way, it can help provide critical insights into the cash inflows and outflows and set limits. These can also enable companies to achieve cash management goals.
Budget forecasting allows companies to set plans for every function and department. However, it does not make a separate goal for each. Instead, budget forecasting ensures that companies set aligned goals for each department. This way, every department within the company works towards the same objective. In the absence of a budget forecast, each function may work towards its benefits.
Control and monitor finances
A budget forecast is a budget that uses forecasting techniques. As mentioned, budgets are control tools that companies use to assess actual results. A budget forecast also plays a similar role in control and monitoring activities. It sets a goal for companies, as mentioned above. Companies can then use those goals to monitor actual results. If any differences exist, they can promptly fix them.
Budget forecasts are not internal documents. Due to the forecasting element, companies can also present them to stakeholders. More specifically, investors prefer looking at budget forecasts to understand a company’s plans. For companies to attract investors, budget forecasts can be significantly crucial. While investors also prefer other tools for comparison, budget forecasts can also aid in that process.
Help anticipate changes in the market
Budget forecasts can help anticipate changes in the external environment in which companies operate. These tools allow companies to study that environment and forecast any future events. By doing so, companies can identify the opportunities and threats they face in the future. On top of that, it also allows companies to take a proactive approach to deal with those changes.
A budget forecast usually refers to a budget prepared for forecasting needs. This tool allows companies to use the benefits of budgets and forecasts to achieve better results. Usually, companies prepare these based on historical information. In that regard, budget forecasts are similar to incremental budgets. Several reasons exist for why budget forecasting is important, some of which are available above.