If you have been familiar with financial terms or have worked in the financial sector especially in determining a business’s growth potential, a most common question that must have crossed your mind now and then is “Are forecasts and budgets the same thing?” People invariably use these two terms interchangeably. But do they mean the same thing? Let’s find this out in our blog!
Forecast and budget – What they mean?
A forecast is merely an estimate of possible future events. When a business enterprise is at the planning stage, it is imperative to make forecasts of the probable course of action for the business in the future. Forecasts are made concerning revenue, cost of production, and financial needs of the company.
A budget is the operational and financial plan of a business entity. It is a kind of commitment or goal that the management tries to attain based on the forecasts made. A budget is both a tool for planning profits and a strategy for minimizing operating costs. To create a budget, it is necessary to forecast various important variables, such as revenue, selling prices, availability of goods, material prices, wage rates, etc.
A forecast denotes a certain degree of uncertainty and flexibility, while a budget denotes a fixed and definite goal to be achieved.Forecast vs budget
Forecast vs budget difference
Both budgets and forecasts relate to a business’s events and activities being envisaged in advance. However, there are still some significant variations between budgets and forecasts as set out below. Let us have a look at these.
Forecast vs budget
|Nature of difference||Forecast||Budget|
|Meaning||A forecast is a mere prediction of what is going to happen. It is a declaration of possible events that are expected to occur under anticipated circumstances over a given period.||A budget demonstrates the strategy and programs that are to be pursued in the future under pre-planned conditions.|
|What it entails?||Forecasting can be characterized as the study and interpretation of future circumstances concerning the operations of the company. It includes looking ahead and anticipating the future course of affairs.||A budget signifies a financial or quantitative document, prepared and accepted before a stated period, of the strategy to be followed during that period to achieve a certain objective. It can include revenue, expenditure, or employment of capital.|
|Crux||Forecasts are majorly concerned with anticipated or probable events.||Budgets are mostly related to planned events.|
|Degree of Control||Forecasts, being only estimates of future events, do not connote any sense of control.||A budget is a tool of control. It represents an action plan to ensure that the entity’s actual activities least deviate from the planned activities.|
|Stage||Forecasting is a preliminary stage in the budgeting process. It comes to an end with the prediction of possible events.||Budgeting begins where forecasting ends. Forecasts are transformed into budgets.|
|Scope||Forecasts have a broader reach since they can be generated in those areas also where budgets cannot intervene.||The budgets are limited in scope. They can be made of a phenomenon capable of being expressed in quantitative terms.|
|Period||Forecasts may cover a longer period, or years.||A budget is usually planned or prepared for a shorter period.|
|Flexibility||A forecast is only a tentative estimate.||A budget is a target fixed for a specific period.|
|Coverage||A forecast typically covers a specific business function.||A budget is usually prepared for the business as a whole.|
|Variance analysis||There isn’t any variance analysis to compare forecasts with actual results.||A budget is compared to actual results for the determination of variances from expected performance. Thereafter, remedial actions are taken to put the actual results back into line.|
How to do forecasting and budgeting
Budgeting is a quantified expectation of what the organization hopes to accomplish over any given period – a summary of the total revenue from all goods or services. Forecasting, on the other hand, is an estimation of how much will be sold over a given period.
A budget is an overview of the path the management wants the company to go (in terms of future results, financial position, or cash flows). But a financial forecast is a study to show whether the organization is achieving its budgetary targets and where the organization is going in the future.
Forecasts should act as a basis for the preparation of budgets. For example, a realistic sales budget can be prepared based on good sales forecasts. Both short-term and long-term financial forecasts may be used to design and update a company’s budget.
First, to accurately forecast sales, businesses may predict the future pattern of sales based on their past trends. For forecasting, a business may consider that managers who are doing a sales job on a day-to-day basis are likely to have a fair idea of what is achievable. They may like to consider what is likely to happen in the forthcoming period, local trade conditions, inflation rates, consumer spending patterns, etc.
Now, once a sales forecast is prepared, it is used as an input to make the sales budget.
But both budget and forecast should go hand-in-hand. Sometimes, budgeting may also involve targets that may not be attainable due to changing market conditions. For this reason, forecasts are used to update and revise budgets from time to time. Mapping up with forecasts signaling current market conditions ensures that budgets don’t turn redundant over time. When a company uses budgeting to make decisions, the budget should be more flexible. It should be updated more than once a year so that a relationship is established with the prevailing market.
The figures below show some examples of budgets and forecasts.
Forecast and budget template
Now that we have understood how forecasting and budgeting are done, let us see how to prepare a forecast and budget. To corroborate the above discussion, we are taking sales data as an example.
1. Sales forecast for the calendar year 2021:
Company XYZ (Sales Forecast)
This forecast is influenced by a variety of factors such as general business conditions, government policy, sales-prices, sales trends, new products, etc. It is the responsibility of the sales manager and market research staff.
|Quarter||No. of units to be sold|
|Sales during the year||51,250|
So, in this example, the above information displayed in the sales forecast would be used by XYZ Company to map its budget. The sales forecast would be used as a foundation to make the sales budget.
2. Sales budget for the forthcoming calendar year 2021 for each quarter is as under:
For the year ending 31st Dec 2021
|Quarter||No. of units to be sold||Sale Price (Rs.)||Total sales (Rs.)|
|Sales during the year||50,250||11,04,95,000|
The management defines its sales policies and strategies in terms of its ability to respond to consumer demands, production capacity, technological developments, and the financial requirements of marketing.
As we can see, the company restricts its sales units in Q-IV to 14,000 (instead of 15,000) due to a shortage of production capacity.
This budget would then represent a goal (i.e., sales data in units and figures) to be attained by the company in the coming period.
The sales budget will act as a guide/benchmark for the company to achieve the goal of selling 50,250 units. It provides management insight into what they want the company to attain over the next year.
Key takeaway (Forecast vs budget)
A financial forecast and budget are not the same. The main difference between a budget and a forecast is that the budget is a roadmap for where a company needs to go, while the forecast shows where it is currently going.
Budgets and forecasts must work together. Sometimes, a budget can include goals that are simply not feasible or for which market conditions have changed so much that it is not prudent to try to achieve them. In that case, the information in a forecast can be used to update budgets, take immediate action and, thus, offer a useful tool.
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