Budgets & Forecasts
The Cecere Group’s Outsource CFO services can provide the company’s management team with an operating budget and financial forecast to aid in driving financial results toward their intended goal. Budgets can serve as powerful management tools as well by holding managers accountable at a division or cost center level. We can help build a stable process for preparing budgets by standardizing inputs that drive cost elements of the budget and linking revenue to management’s strategic initiatives.
Budgeting and forecasting are essential components of a company’s financial plan and are used at different stages in evaluating progress on the plan. The Operating Budget reflects the financial results of the business plan that management wants to implement; it is the quantification of the expected results of the business initiatives that drive the plan. The Financial Forecast is used to compare the plan to the direction that the actual results are moving toward and is a predictor of where results for the year will come in.
Taken together, these tools provide the cycle of financial planning starting from the point where the budget quantifies the business plans for the upcoming year and taking it through to where the forecast projects results, which allows management to make changes that will bring actual results more in line with the budget/plan.
Operating Budget: The budget should be prepared at a detail level as much as possible. This allows meaningful budget to actual analysis to identify deviations from plan. Different techniques can be used in the formation of the operating budget.
- Zero-based budgeting is a bottom up budgeting technique that allocates budget funding based on necessity rather than on budget history. Budgets are developed that include only essential costs to run the business and additional costs are justified on individual merit as well as the requirements on planned business initiatives. Although this method required the most effort because of the requirement to justify budget line items annually, it offers the most efficient allocation of budget funding.
- Incremental budgeting is an approach where prior year actual results are adjusted up or down by a standard percentage to arrive at a current year budget. Although this is the simplest and easiest method, the problem with this method is obvious in that it covers over inefficient spending and carries it forward without much of a challenge. This method could allow for inefficient allocation of budget funding.
Financial Forecast: The forecast is not typically prepared at a detail level similar to the budget. It is designed to take actual financial results and extend those forward based on the drivers and other factors that are expected to occur. The forecast is prepared with the insights of what has actually occurred year to date. Where the budget imposes a certain set of boundaries within which the company is expected to operate, the forecast tells it like it is and doesn’t attempt to force compliance with its results. Once prepared, the forecast identifies risks and opportunities that management should heed and make adjustments for in order to correct course to arrive at the intended destination.
Key Points:
- Operating Budgets serve to quantify the required results needed to reach the objectives of the business plan. Operating Budget is the road map.
- Financial Forecasts are built from actual results which are used to predict full year results to see if the company will meet the budget. Financial Forecast is the flight path.
Department Budgets as a Management Tool
For maximum effectiveness, budgets should be prepared at as detail a level as possible. Ideally, budgets will be prepared at a department level as well. In these cases, a department budget will include the budgeted costs of a particular department, for example salaries, travel, and other direct costs. The department manager will then be charged with the responsibility of managing department activities in accordance with the line item amounts that have been budgeted to her department. This process brings significant accountability with it and the manager has to be able to explain variances from budget. Just as it is important to hold managers accountable for costs within their control, it is equally important to exclude costs which they have no control over, such as overhead costs that may be allocated to their department.