What is the difference between a forecast and a budget? It surprises me how often this question comes up within businesses, even with some Executives who have held significant budget responsibility during their careers.

Whenever I take on responsibility for setting and tracking a budget and forecast for an organisation, I break it down as follows.

The Budget

What you think you’re going to do for the next year, before the year has started?

In the last quarter of your current financial year, it’s good practice to set the budget for the next financial year. Business plans will be refined and quantified and the head of finance distilling the numbers to allocate budgets to department heads and set revenue targets for the sales teams.

It should be made clear that the budget will be revised quarterly in the month prior to the start of the next quarter. In other words, although the budget is set, there is no guarantee the money can be spent other than in the first quarter. There are exceptions to this, but it’s a good guideline to start with.

But having been involved in budget setting for over 20 years, I believe the static 12-month budget is a waste of time. It sucks up significant management time and by the time it’s set, it is out of date.

A much better approach is a rolling 12-month forecast that gets updated every quarter, saving significant management time. The four quarters that make up your financial year become your budget and then all other quarters are forecasts.

The Forecast

What you think you’re going to do for the rest of the year you are in?

In other words, a forecast is a revised budget. Once the year you have budgeted for gets underway, immediately start tracking this against the budget.

If we take the year to 31st December 2011 for example, it’s good practice to do a forecast in March for the rest of the year, a reforecast in June and a final one in September 2011 (the last months of the quarter before the start of the next one).

As the year progresses your forecast then comprises actuals plus forecast. At each month end it’s good to track your performance against the forecast to see if you’re on track. A ‘3+9’ forecast shows three months of actuals and nine months of forecast. A ‘6+6’ shows six months of actuals and six months of forecast. As the year progresses, the forecast for the year will become more accurate the more that it comprises actual months and fewer forecast months.

Reforecasting once a quarter is a painful, but necessary task. It helps to keep everyone focused and forces the leadership team to be united in its approach to achieving company goals.

Getting your cash flow forecast right

If there’s one spreadsheet you have to set up, love, and cherish, it’s the cash flow forecast. Visibility to your income and outgoings as far into the future as possible is like putting your headlamps on full beam down an unlit windy road. The further out you can see the better chance you have of not ending up in a ditch!

But of course you need to make sure you’re looking at the right road. If you keep a cash flow then you must keep looking at it. Follow these five practical guidelines to manage your cash flow forecast for maximum benefit:

  1. See out for 12 months minimum. The main reason for keeping a cash flow is to know, well in advance, when you are likely to need a cash injection. The sooner you have visibility of this, the better. I always insist on a rolling 12 month cash flow broken out by weeks. Why 12 months? It takes time to raise money so if your cash flow is only rolling for six months, you’re not giving yourself enough time to fundraise.
  2. Keep the set up simple. Have the weeks running left to right at the top of your forecast sheet. On the left hand side list the following: your clients and other sources of income; subtotal of your income week by week; suppliers, payroll, VAT and other outgoings; and sub-total of outgoings week-by-week. Once you sub-total your income and outgoings, add a net cash flow line, which deducts outgoings from income to show the weekly movement. Finally, add a carried forward line that keeps a running balance by week – this is your bank balance.
  3. Keep it confidential. Password protect your forecast. You don’t want this getting into the wrong hands, especially employees who may get to see salary information and the state of the company’s finances.
  4. Look for trends and seasonality in your cash flow. As you get into habit of regularly reviewing the cash flow you’ll quickly see patterns emerging i.e. times in the month and year where cash is tight and an overdraft might be of benefit, for example if VAT, payroll and rent land on the same day. There will also be times when you have cash surpluses which may be better on deposit.
  5. Update your forecast regularly. Don’t update your forecast once then forget about it or only when asked to by your Bank Manager. Update it at least monthly and ensure the Board have visibility of it. An up-to-date forecast will ensure there are no surprises and funding can be addressed in good time. Make sure the opening balance agrees with your bank account; this is often overlooked as the focus is on the future and not today.

By David Bloom, Founder Of FDU Group