According to the forecasting definition, by analyzing a company’s income statement, cash balance, current market conditions, and historical internal and external trends, a business owner can create a theory about future business conditions and circumstances, or a “forecast.” Typically, the forecasting process is undertaken when developing a company’s budget.
Read on to find out more about forecasting and the differences between the meaning of forecasting and preparing your budget. We can help your small business get up and running and help prepare you to forecast for your budgeting session.
Forecasting is a budget technique that uses historical data to make informed estimates about future business trends. You don’t have to be a huge corporation to use forecasting techniques. Even the smallest businesses use forecasting to allocate resources, anticipate expenses, or prepare budgets.
Companies setting their budgets are not the only ones who use forecasting. The business definition of forecasting has a slightly different meaning to investors than to companies themselves. Investors use forecasting to make estimates about a company’s future success and corresponding rises and falls in that corporation’s stock price. This is slightly different than financial modeling. Financial modeling is when investors use a forecast to construct a complete picture of a company’s business to decide whether to invest.
In addition to making estimates about company performance, stock analysts can use forecasting to understand how trends like unemployment will change an industry in a given time period. Investors can use this information and apply it to their financial models. But users of forecasting should be forewarned: the further out the predictions, the greater the chance that the forecast will be inaccurate. This is not unlike your local weather report when the forecast calls for rain a week from Monday, but when that date rolls around, the weather is sunny and clear.
We explained a bit about how forecasting and modeling are different when investors use them under the business definition of forecasting. When used for budgeting purposes, budgeting and forecasting are different concepts but are often used together. Financial forecasting estimates a company’s revenue or income for a future period. Budgeting allocates income or revenues to specific categories or to set expenses.
One of forecasting’s benefits is that it provides a benchmark against which a company’s positive performance, mistakes, and corrective actions can be measured. Forecasting also helps to identify the departments, products, and processes that consume the greatest percentage of the company’s capital. It can also be a useful tool to assess the viability of new product lines and business ventures.
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Disclaimer: The content on this page is for information purposes only and does not constitute legal, tax, or accounting advice. If you have specific questions about any of these topics, seek the counsel of a licensed professional.