Business forecasting allows your company to make long term plans and prepare for any changes in the market. Based on the unique needs of your business, your approach to business forecasting must be targeted and tweaked to be useful.
In order to help you better understand business forecasting and choose the right path for your company, we’re breaking down every element of the forecasting process—beginning with the types of business forecasting.
What is business forecasting?
Business forecasting is predicting the economic future—along with how your business will respond.
Using past data and careful analysis of current economic conditions, business forecasting attempts to predict what will happen next for your business or industry. This type of analysis can allow businesses to prepare for shifts in the market or a change in demand. Business forecasting may change the investment and saving strategies of businesses and individuals, as well as affect the timing of new offerings.
Business forecasting involves the collection of primary and secondary sources of data, analyzing the data, creating strategies for projections, and then comparing your forecasting model to the realized outcomes.
Types of business forecasting
Each type of forecast focuses on a specific metric or outcome. What you want to know or predict about the future will help you decide which type of forecast you pursue. Business forecasts can range from the general (sales next month) to the incredibly specific (consumer demand for a specific product for the 2021 holiday season).
General business forecasting
All businesses are affected by their environment and the greater connections to the economy, community, political climate, and a myriad of other factors. A general business forecast is used to determine the overall business climate for a future date, and can be widely applied and useful for many different businesses and industries.
Used for: Determining overall market conditions and the impact of the environmental factors in which your business operates
Best for: Businesses operating in influential environments, such as countries experiencing political upheavals, major technological advancements, or dramatic seasonal shifts.
Example: Analyzing the impact the 2020 U.S. Presidential election will have on the American economy at large.
A sales forecast estimates future sales, whether overall or of a specific product or service within your business offerings, based off of sales data. Sales forecasting allows your business to anticipate the future needs for workforce, resources, cash flow, inventory, and investment capital. A sales forecast will show the sales revenue your company might expect over the next month, quarter, or year of a sales cycle.
Used for: Predicting your sales for a future period of time, and estimating growth and cash flow.
Best for: Businesses relying solely on sales history, or looking to project sales for investors and funding.
Example: Projecting revenue for the 2021 fiscal year to determine how many salespeople to hire and their commission structure.
Your demand forecast will go hand in hand with a sales forecast, as demand forecasts will predict what the market needs or wants and a sales forecast will predict how your business will be able to capitalize on those needs with sales. Demand forecasts might predict how many consumers in your targeted demographic are looking for your product in the next quarter, or what customers would be willing to pay for a certain service.
Used for: Determining market and customer demand for a good or service in the future.
Best for: Planning how much to invest in raw materials or inventory, deciding if a new product will perform well.
Example: Predicting the demand for a new toy at Christmas so you can buy the appropriate inventory.
Often businesses need to estimate the working or liquid capital that will be available to them in the future so they can plan for hiring, bonuses, upgrades or investments, and other developments that might rely on the cash available. Capital forecasting is tricky, and not as reliable as other forecasts simply because it involves guessing at a number of factors. Capital may involve the following factors:
- Cash & savings
- Accounts receivable
- Investment funding
- Lines of credit
Used for: Predicting available capital for a future date or event.
Best for: Companies preparing for investment, growth, hiring, acquisitions, or other changes that will require cash.
Example: Estimating working capital for purchasing a larger office building in the coming year.
An accounting forecast is the practice of predicting the future costs which will be incurred by your company, using past and present data to estimate how much your business will pay for raw materials, inventory, man hours, utilities and rent, insurance, and more.
There are many different methods to determine this type of forecast, including regression analysis which uses mathematical formulas to test the relationships between multiple factors and identify trends over time, and the high-low method which takes the highest cost and drivers as well as the lowest cost and drivers to create a slope to predict where costs might fall over time.
Used for: Determining future operating costs for your business.
Best for: Every business concerned with covering future costs.
Example: Estimating cyclical changes in a seasonal product’s cost, such as fresh produce for a restaurant.
Financial forecasting is about getting a clear picture of where your company is headed. It includes weighing assets and liabilities, accounts payable and account receivable, operating costs, capital and cash flow, and general market conditions. A financial forecast might include the elements of other types of forecasts.
Used for: Tracking the future trajectory of your company as a whole.
Best for: All businesses looking to stay on top of their business’s health through financial projections.
Example: Ensuring that your company will be on track to meet a profit goal by years’ end.
Methods of forecasting
Within each of these forecasting techniques you’ll use different recipes or methods of forecasting to create the data you need. The methods are qualitative forecasting (using opinion and observation) or quantitative forecasting (using data and historical evidence), or a combination of the two. There are a wide range of methods you can use to forecast business data, and you’ll make your choice based on the type of forecast you aim to create and the data available to you.
For example, you may want to create an accounting forecast, so you’d use the method of regression analysis to test and compare multiple variables of cost over time.
Why forecasting matters
It may seem like forecasting is a lot of work for an unpredictable, possibly nonexistent payout. But there are several solid reasons that you should be regularly using forecasting to benefit your business.
- Better grasp on in-house data and business performance
- Competitive advantage
- To set effective budgets
- Faster response to cyclical or seasonal changes
- Ability to identify larger patterns and relationships
- To assist in long-term strategy and goal-setting
Forecasting isn’t perfect, but it is a useful tool and practice for understanding your company’s financial state and remaining agile in a changing market. At the very least, forecasting forces you to know your own company and gather your own data—making you a smarter and better informed business owner.
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