Financial Forecasts And Your Business

Forecasts can also be a valuable tool to assist you in your relationship with your Bank Manager. Banks will often require your business to present some form of forecast when refinancing, acquiring business assets, or simply when reviewing their debt financing levels with you.

Computerisation of business records

The implementation of GST has forced many businesses to use some form of accounting software. What may have been information on paper in the past, is now being processed into accounting software with the ability to report on a yearly, quarterly, weekly even daily basis. The ability to summarise and obtain data electronically has assisted the business decision making process significantly - particularly for smaller sized businesses. This readily available information can be maximized further by directly entering/exporting into your financial model. Further analysis can then be undertaken to identify key factors to achieve your business’s goals.

Short verses long term budgets

The ability to identify the appropriate timeframe to use can save you significant time, both in the preparation and reporting stages of your financial model. With the time horizon set, you can then begin to assess the inclusion/exclusion of factors in your model, and begin to document these as basic assumptions to the model. In general terms the further out into the future the model is, the less detail you will probably require. Shorter to medium term models will require significantly more detailed information and data.

An example to illustrate this is to focus on a retail company’s sales projections. In the short term, users of the model would generally require sales by units and by sales price. This would assist in the calculation of the gross profit of the product line, and any associated overheads which may vary with fluctuations in sales levels or price volatility. Medium term forecasts would still require this basic data to project out by two to five years. When looking at over 5 years, per unit information may not be as critical to the model. In this situation you could increase sales each year by an uplift factor. This could be CPI, a historical trend factor based on past sales, market/industry averages or combinations of these items.

Quick tips for creating effective models

• Determine reporting timeframe;
  
  
• Document any assumptions you make in the model – It will be easier to explain changes to others;
  
  
• Determine what level of detail you wish to extract from the model – This will influence the decisions you make on the information to put in;
  
  
• Document any major changes you make to your model’s structure, e.g. formulas, inclusions and exclusions of items – If you need to put an item back in it you will have a record on file;
  
  
• Methodically review your forecast to ensure that no important expenditures or income items have been excluded – Perhaps show it to your accountant for a ‘second opinion’;
  
  
• Ensure you have the ability to adjust the forecasted numbers in the future, and apply the same model across future years – Duplication of models wastes precious time, and runs the risk of omissions and errors.

Spreadsheet or off-the-shelf forecasting software?

Spreadsheeting software such as Microsoft Excel is a common business tool in most small to medium sized businesses. This package is flexible enough to create from the simple to the most complex model – if you have some knowledge of how to use formulas! It is also handy for small businesses, as many off-the-shelf accounting packages (such as MYOB and Quickbooks) directly export reports and information to it. There are however other software solutions on the market today for those who do not wish to learn how to use spreadsheets or learn cumbersome formulas. Packages such as Winforecast Professional and Cash Focus are examples of forecasting software designed specifically for that purpose. They contain built in formulas, and are flexible enough to create a simple budget or an advanced business model, handling debtors, creditors – even stock!

An added bonus to using specific forecasting software is the ability to obtain integrated profit and loss, cash flow, balance sheets, and funds flow statements at the push of a button. Once your data is entered, the software will project each of these reports for you. You can also add in your actual data on a monthly basis to analyse how your business is performing.

An integrated forecast overcomes one of the major flaws with many MS Excel spreadsheets. It is very difficult to create in MS Excel an advanced forecast which ties the balance sheet to the profit and loss statement, without using cumbersome formulas. It is not uncommon for most user created spreadsheets to contain some form of mathematical or structural errors! Can your business afford to run this risk?

Ability to 'what if'?

Once you have constructed and tested your model for accuracy you can start to enjoy the benefits of being able to change input variables to analyse the effect on your business. This is called 'what if analysis' or 'scenario testing'. You could perhaps analyse your business break even point, conduct cost benefit analysis of purchasing another asset for the business, or the effects of changes to the gearing level of your business – the possibilities are endless. Just remember when conducting what if analysis, save your original data in a safe place. This will mean that the changes you make to your model will not overwrite all your hard work in preparing it in the first instance!

With the advent of the information age it has never been easier to construct a basic financial model for your business. The ability to forecast is a critical factor in the success of your business. Sufficient time should be invested to carefully construct the appropriate model to assist in achieving the strategic goals of you business.

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