Before we dive into the differences between budgeting and forecasting, it should be said that each are tools that companies use to establish a plan for where the company is heading. The tools can be used to track its direction to align the two based on the end-goals of business owners.
Generally speaking, budgeting quantifies the expectation of revenue for a future period. Whereas forecasting estimates the income or revenue that may be achieved over that time. But more on the differences between the two later.
Let’s talk about the difference between budgeting and forecasting
- Defining the differences between budgeting and forecasting
- Comparing the top five differences between budgeting and forecasting
- Do I need a budget or a forecast?
- Key takeaways on the differences between budgeting and forecasting
Budgeting and financial forecasting are generally used together. However, there are distinct differences that exist between the two. Depending on what your business goals are, you may more heavily rely on one or the other but will always need both to plan, adjust, and execute business strategies effectively.
Defining the differences between budgeting and forecasting
What is a budget?
A budget is an outline of expectations for what a company wants to achieve for a particular period, usually one year. Characteristics of budgeting include:
Estimates of revenues and expenses.
- Expected cash flows.
- Expected debt reduction.
- A budget is compared to actual results to calculate the variances between the two figures.
Budgeting represents a company’s financial position, cash flow, and goals. A company’s budget is usually re-evaluated periodically, usually once per fiscal year, depending on how management wants to update the information. Budgeting creates a baseline to compare actual results to determine how the results vary from the expected performance.
What is a financial forecast?
Financial forecasting estimates a company’s future financial outcomes by examining historical data, allowing management teams to anticipate results based on previous information.
Characteristics of financial forecasting include:
- Used to determine how companies should allocate their budgets for a future period. Unlike budgeting, financial forecasting does not analyze the variance between financial forecasts and actual performance.
- Regularly updated, perhaps monthly or quarterly, when there is a change in operations, inventory, and business plan.
- Can be created for both short-term and long-term. For example, a company might have quarterly forecasts for revenue. If a customer is lost to the competition, revenue forecasts might need to be updated.
- A management team can use financial forecasting and take immediate action based on the forecasted data.
An overview of the differences between a budget and a forecast
In essence, the difference between a budget and forecast is their usage across the business. Simply put, a budget is a plan that a business sets out once per year and is more of a goal, where the business wants to be, rather than an expectation of where they might be. A forecast is more of a strategic tool to guide you through the months and years. It helps you steer back on course if things start to stray from the path you defined with the budget.
Comparing the top five differences between budgeting and forecasting
A budget is a quantitative business plan prepared by management for a future period while a financial forecast is an estimate of future trends based on historical data.
While a budget quantifies what management wants the company to achieve over a certain period, a forecast predicts what could possibly be achieved over a certain period.
A budget is usually done short-term, for a maximum of one accounting period. However, a financial forecast is used to predict results over a long period of time, generally over several years.
In comparison, a budget is a static statement that is updated less frequently to stay connected with prevailing market conditions, whereas a forecast is more flexible and is revised multiple times to incorporate real-time data.
A budget serves as a control tool for managing operational performance in the short term while a financial forecast serves as input for preparing budgets and to help management in developing that company’s long-term strategic plan.
Do I need a budget or a forecast?
Our Forecasting Fundamentals series takes you through the ins and outs of the importance of financial forecasting for your business. Within our free guide “Forecasting Fundamentals Every Business Should Know About”, we cover the topic of whether you need a budget or a financial forecast. We also highlight the high-level differences between the two as a refresher.
Whilst each can work as a standalone, successful companies make use of both a budget and a forecast. This is in order to best use the financial data they have available to their advantage.
The long and short of this is that using both in tandem with each other can help drive your business’ long term goals and strategic vision of the future. While forecasting may not be on the top of your to-do list, it’s very important to run a successful business. Forecasts can then, in turn, help inform on your budget.
Key takeaways on the differences between budgeting and forecasting
While the budget provides management insight on what they want the company to attain, the forecast shows whether the company is able to achieve its budget or not. Forecasting of sales and expenses from past performance or peer performance provides a guide to developing an effective budget. Comparison of a budgeted summary with the most recent forecast helps management to make required amendments to address changing business conditions and formulate more reasonable budgets in subsequent years.
Budgeting and forecasting 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.
Specialised tools, like Brixx, exist to help make financial planning and management easier for your business. By understanding the differences between key financial areas such as budgets vs forecasts, you, as a business owner, can gain a better understanding of what you need to keep track of for your business in order to see success.