Welcome to our finance departments biweekly meeting. Today's discussion will be devoted to the role of forecasting here at Strident Marks. We will discuss the importance of this process and how they are developed. To add a little bit of contrast, we will also discuss the capital budgeting process and how it is similar or different from the financial statement forecasting process (CTU, 2007).
Forecasting is the process of estimating future sales and profits by examining past experience along with market research (Prentice Hall, 2007). Forecasting the financial planning process involves two main aspects: cash planning and profit planning. These processes allow the company to make informed decisions when planning future financial decisions because current and past market trends are taken into consideration. For individual companies, the process of forecasting will vary slightly since the process can be altered to effect the desired information or forecast to be generated (Gitman, 2006).
There are four basic steps to forecasting for business. First, the company must set objections that they wish to forecast. These preliminary decisions are made based on the information they want to achieve. For example, what decisions will affect the forecast? Next, the forecast is obtained from professionals trained in creating these sensitive documents. The third step is to evaluate what is being forecast. Does the document make any assumptions? How does it compare to past years and reliability? What are the overall objectives of these forecasts? The final step is to allow others in the company to view and critique the forecast for accuracy as it is implemented (Veryard Projects, 2001).
Cash planning involves the cash budget and cash forecast. This is a general budget of inflow and outflow of cash. It can be used to generate short-term estimates for cash requirements to prepare for shortages and surplus. Most times, this design covers a one-year period and is then segmented into smaller units such as quarters. These intervals are set by the seasonal nature of the business or market: the more seasonal, the greater the number of intervals (Gitman, 2006).
A sales forecast is different from the cash forecast in that the prediction includes monthly and annual sales anticipated rather than the actual amount of cash received and given out. In the same aspect, the sales forecast is typically a year in length. It is based on the analysis of external and internal forecasts or data. The external forecast is assessed by observing key economic indicators like consumer confidence, disposable personal income, and gross domestic profit (GDP). On the other hand, internal forecasts are based on information gathered from the companys field managers or specialists. Forecasts are collected and adjusted by the knowledge of the specific market, production capabilities, and personal estimation of units to be sold that year (Gitman, 2006).
Capital budgeting is another method of forecasting future financial expenditures. As explained by Lawrence Gitman (2006), it is "the process of evaluating and selecting long-term projects and investments that are consistent with the company's aspiration to maximize profits." There are five key steps for creating a capital budget: (1) creating and reviewing an idea or proposal, (2) a formal evaluation and presentation of the proposal is done, (3) a decision is made about the proposal at hand typically based on dollar amounts and spending limits, (4) implementation of the proposal requires additional budgeting and expense planning, and finally (5) follow-up procedures such as monitoring and actual cost comparisons to ensure the difference between the projected and the actual costs are measured and evaluated (Gitman, 2006).
Capital budgeting and forecasting have some basic similarities. Both involve tools for anticipating financial needs and changes in the company's immediate future. Additionally, both concepts utilize previous information to create conclusions and powerful analysis. The future can never be predicted in anyway as sales change on a daily basis. Therefore, one important similarity is the uncertainty within both of these concepts and the understanding that there will always be blind spots within the reporting. Regardless, the value of these techniques are indispensable as they focus on the value of production, expansion, and growth (Gitman, 2006).
The two financial planning concepts have several differences as well. Capital budgeting is a decision making process where the concepts can be accepted for capital venture or rejected for any number of reasons. Forecasting is simply an anticipation of sales goals and expectations. In the same respect, if a capital budgeting plan includes a project that is not successful it is difficult to reverse the damage that has been done. With forecasting, analysis can conclude reasons for the downfall and potentially tweak the process to avoid additional crashes. Capital budgeting is the process of making long-term decisions for the company while forecasting is based on short-term qualifications. Forecasting typically projects cash flow for the next calendar year while capital budgeting projects can take 5-10 years to see through fruition. The long-term projects are usually more integrated with marketing plans and strategic goals while forecasting focus's on cash and profit planning. The capital budgeting process can be used to improve the projections forecasting provides (Gitman, 2006).
Forecasting, if done properly, can have some great advantages. First of all, the information projected from this technique can assist the finance department when creating and maintaining a budget. The budget acts as a guide or map for spending, earning, and financial achievements. Secondly, the forecasting projections can foster communication and collaboration as it acts as a motivator or set goal that the company would like to reach. The activities involved with forecasting can also be valuable to managers and their management methods as the information will make them more sensitive to change and the relative factors of change. An additional benefit of forecasting is the overall improvement of quality plans which emerge because of it. These tasks help to clarify underlying factors that increase or decrease production and sales and can help evaluate risks more efficiently (CTU, 2007).
David Walonick (2007) has done research concerning the various methods of forecasting available to businesses and individuals. His considerations include trend extrapolation that operates under the context of what events or forces that occurred previously manipulated what is currently happening. This theory basically says what happened before will happen again. The consensus method seeks expertise from more than one person; typically experts in their field of study. The professional opinion of these individuals is valued as forecast opinion. Simulation methods involve the creation of mathematical analogs and other documents that display measurements of success and profit. Walonick also involves genius forecasting in his projections. This concept is a mixture of intuition and insight. More often than not, it is written off as unreliable (Walonik, 2007).
It is important for businesses to have financial guidelines that determine how money is raised and spent. Different circumstances require different methods of researching and gathering information to make financial decisions. While different companies have their own habits and policies for how this information is retrieved. Never the less, some kind of forecasting and capital budget decision making is involved each year as businesses reflect on their success or failure from the year prior and plan for the coming year. Both methods have similarities and differences: neither method is better, easier, or more reliable. As long as businesses continue to thrive and grow, these concepts will continue to be used and modified for results.
Forecasting is the process of estimating future sales and profits by examining past experience along with market research (Prentice Hall, 2007). Forecasting the financial planning process involves two main aspects: cash planning and profit planning. These processes allow the company to make informed decisions when planning future financial decisions because current and past market trends are taken into consideration. For individual companies, the process of forecasting will vary slightly since the process can be altered to effect the desired information or forecast to be generated (Gitman, 2006).
There are four basic steps to forecasting for business. First, the company must set objections that they wish to forecast. These preliminary decisions are made based on the information they want to achieve. For example, what decisions will affect the forecast? Next, the forecast is obtained from professionals trained in creating these sensitive documents. The third step is to evaluate what is being forecast. Does the document make any assumptions? How does it compare to past years and reliability? What are the overall objectives of these forecasts? The final step is to allow others in the company to view and critique the forecast for accuracy as it is implemented (Veryard Projects, 2001).
Cash planning involves the cash budget and cash forecast. This is a general budget of inflow and outflow of cash. It can be used to generate short-term estimates for cash requirements to prepare for shortages and surplus. Most times, this design covers a one-year period and is then segmented into smaller units such as quarters. These intervals are set by the seasonal nature of the business or market: the more seasonal, the greater the number of intervals (Gitman, 2006).
A sales forecast is different from the cash forecast in that the prediction includes monthly and annual sales anticipated rather than the actual amount of cash received and given out. In the same aspect, the sales forecast is typically a year in length. It is based on the analysis of external and internal forecasts or data. The external forecast is assessed by observing key economic indicators like consumer confidence, disposable personal income, and gross domestic profit (GDP). On the other hand, internal forecasts are based on information gathered from the companys field managers or specialists. Forecasts are collected and adjusted by the knowledge of the specific market, production capabilities, and personal estimation of units to be sold that year (Gitman, 2006).
Capital budgeting is another method of forecasting future financial expenditures. As explained by Lawrence Gitman (2006), it is "the process of evaluating and selecting long-term projects and investments that are consistent with the company's aspiration to maximize profits." There are five key steps for creating a capital budget: (1) creating and reviewing an idea or proposal, (2) a formal evaluation and presentation of the proposal is done, (3) a decision is made about the proposal at hand typically based on dollar amounts and spending limits, (4) implementation of the proposal requires additional budgeting and expense planning, and finally (5) follow-up procedures such as monitoring and actual cost comparisons to ensure the difference between the projected and the actual costs are measured and evaluated (Gitman, 2006).
Capital budgeting and forecasting have some basic similarities. Both involve tools for anticipating financial needs and changes in the company's immediate future. Additionally, both concepts utilize previous information to create conclusions and powerful analysis. The future can never be predicted in anyway as sales change on a daily basis. Therefore, one important similarity is the uncertainty within both of these concepts and the understanding that there will always be blind spots within the reporting. Regardless, the value of these techniques are indispensable as they focus on the value of production, expansion, and growth (Gitman, 2006).
The two financial planning concepts have several differences as well. Capital budgeting is a decision making process where the concepts can be accepted for capital venture or rejected for any number of reasons. Forecasting is simply an anticipation of sales goals and expectations. In the same respect, if a capital budgeting plan includes a project that is not successful it is difficult to reverse the damage that has been done. With forecasting, analysis can conclude reasons for the downfall and potentially tweak the process to avoid additional crashes. Capital budgeting is the process of making long-term decisions for the company while forecasting is based on short-term qualifications. Forecasting typically projects cash flow for the next calendar year while capital budgeting projects can take 5-10 years to see through fruition. The long-term projects are usually more integrated with marketing plans and strategic goals while forecasting focus's on cash and profit planning. The capital budgeting process can be used to improve the projections forecasting provides (Gitman, 2006).
Forecasting, if done properly, can have some great advantages. First of all, the information projected from this technique can assist the finance department when creating and maintaining a budget. The budget acts as a guide or map for spending, earning, and financial achievements. Secondly, the forecasting projections can foster communication and collaboration as it acts as a motivator or set goal that the company would like to reach. The activities involved with forecasting can also be valuable to managers and their management methods as the information will make them more sensitive to change and the relative factors of change. An additional benefit of forecasting is the overall improvement of quality plans which emerge because of it. These tasks help to clarify underlying factors that increase or decrease production and sales and can help evaluate risks more efficiently (CTU, 2007).
David Walonick (2007) has done research concerning the various methods of forecasting available to businesses and individuals. His considerations include trend extrapolation that operates under the context of what events or forces that occurred previously manipulated what is currently happening. This theory basically says what happened before will happen again. The consensus method seeks expertise from more than one person; typically experts in their field of study. The professional opinion of these individuals is valued as forecast opinion. Simulation methods involve the creation of mathematical analogs and other documents that display measurements of success and profit. Walonick also involves genius forecasting in his projections. This concept is a mixture of intuition and insight. More often than not, it is written off as unreliable (Walonik, 2007).
It is important for businesses to have financial guidelines that determine how money is raised and spent. Different circumstances require different methods of researching and gathering information to make financial decisions. While different companies have their own habits and policies for how this information is retrieved. Never the less, some kind of forecasting and capital budget decision making is involved each year as businesses reflect on their success or failure from the year prior and plan for the coming year. Both methods have similarities and differences: neither method is better, easier, or more reliable. As long as businesses continue to thrive and grow, these concepts will continue to be used and modified for results.
