What’s the Difference Between Budgeting and Financial Forecasting?
Budgeting and financial forecasting often come hand in hand when it comes to the financial management, development and direction of a business. Although they are both similar processes, they do have some key differences. These financial tools allow businesses to plan for growth and it’s vital for your accounting team to have a solid understanding of both.
Although budgeting and financial forecasting are often used together, distinct differences exist between the two concepts. These two services are paramount, especially if you have a small or startup company. Budgets are used to reflect on what you want to happen with your business, while forecasts reflect what you think will happen. Budgeting vs forecasts are not mutually exclusive since they serve different purposes. While forecasts help in achieving strategic goals, that is not possible without attaining the tactical goals or management of action plans through sound budgets.
Need a little more information? Don’t worry, in this article, we will highlight the key differences between the two.
What is a budget?
To put it simply, a budget is an outline of your company’s expectations for the upcoming financial period. This detailed statement includes a variety of features such as estimates of your revenue and expenses, expected debt reduction, and expected cash flows. These figures quantify the plans of the management to reach a desired goal for the company during a specified period.
Through a budget, you can align sections of your action plan into estimates of revenue and expenses, cash flows, debt requirements, etc. This allows you to gauge the feasibility of your vision and prepare a baseline for KPI’s and numerical targets. Businesses usually compare budgets to actual results to determine the extent to which they’re straying from expected performance or growth. Management may even use this comparison to tweak strategies and remediate any potential issues.
Although budgets are drawn up on an annual basis, usually, these can be updated and adapted throughout the course of the year. Budgets are periodically re-evaluated, depending on how management wants to update the information and targets.
In short, budgeting is an outline of expectations that’ll help a business to grow and develop financially. These reports should be filed annually for a number of different reasons, including analysing performance levels from previous years.
What is a forecast?
Financial forecasting is essentially an estimate of a business’ projected financial outcomes and is generally more strategic and broader than a budget. Forecasting is an estimation of future outcomes which quantifies where the company is headed during the forecasted period.
Since forecasts are more strategic than budgets, they help companies to realise their growth plans and allocate funds accordingly. Financial forecasting will help you to test out various scenarios and evaluate whether your company will meet your strategic growth plan. These techniques tend not to go into granular detail and are normally restricted to revenue and expenses, and unlike budgets, forecasts are updated regularly.
Creating a range of forecasts to suit different scenarios or outcomes will ensure that you get the most out of your forecasting. This allows you to not only prepare for a multitude of situations but also work out what is likely to happen to your business’s finances if certain economic conditions are met. Financial forecasting can also be used to make any changes and adjustments to both inventory levels and even production levels.
Overall, forecasting is a more useful tool to use for your business that provides you with a more insightful understanding of the actual circumstances that your business is facing. Forecasting provides a direction to the company’s strategic growth plan and helps in making strategic decisions like introducing new product lines, expanding internal teams or addressing demands. Budgets, on the other hand, are management tools that are used to estimate revenues and expenses during a specified period. These are used to identify avenues for cost-cutting and be more efficient and productive in operations.
Ultimately, budgeting and forecasting go hand in hand, and can be used in tandem to optimise your company’s long-term strategy but offer different benefits to a business.
At Stonehouse, we operate with over 30 years of experience in financial advice for both new businesses and limited companies. We are always available to help with annual accounts preparation services, budgeting advice and more to ensure that we make your accounting as simple and affordable as possible. If you would like more information then don’t hesitate to contact us today.