Why Forecasting Is So Important!
A number of years ago I asked my youngest daughter what she thought the weather was going to do the next day. She asked what the weather forecast had said. I said I did not know. Why did she need to know that? She said that most of the time the weather was the opposite of what was forecasted so if the weather forecast was for rain it would probably be a nice day tomorrow.
Surprisingly at that time, even though the meteorological models have been built over centuries and are robust, she was regularly correct. I admired the powers of observation for one so young and subscribed to her theory up until recently.
Forecasting In Action
I live in Whangarei and last Friday(17/7/2020) had made appointments with two of my mentees who operate from Paihia and Kerikeri respectively to meet face to face for the first time post Covid 19 lockdown. The weather forecast was apparently for bad weather but I looked out the window before my girlfriend and I departed and it didn’t seem nearly as bad as was forecasted. I subscribed to my younger daughters theory.
As we drove north the weather got progressively worse but I remained positive. I attended my first meeting in Paihia then moved on for my next one in Kerikeri. While I was meeting in Kerikeri, my girlfriend decided to drive to the Waipapa warehouse for a look. She was in the car waiting for me when I completed my meeting. She said that she could not get to the warehouse because of flooding. I thought, huh, the weather didn’t seem that bad.
So we headed South back to Whangarei, just before Moerewa we had to stop as water was over the road in Moerewa. I thought that’s Ok, we will go via SH15, the NZTA website was saying SH15 was still open. So, we headed back to Kaikohe and then down SH15. That went really well until just before Pakotai where there was water across the road. We had to retrace our steps to Kaikohe.
We stopped for some food at Kaikohe McDonalds and talked to some locals who confirmed all routes back to Whangarei were now closed as a result of flooding. Thankfully, some friends of ours that live at Waimate North were home and we were able to make it to their place where they kindly accommodated us until Sunday when the roads were clear again.
The Moral of the Story
In a business environment, it is important to forecast where your business is heading as this can highlight possible issues that may arise in the future. If you have built a good forecasting model then you can rely on it, forecasts are not made to be ignored. If I had listened to the forecast for Friday’s weather, I would have postponed my appointments (or at least packed a toothbrush).
A good forecasting model and approach needs to be flexible and regularly reviewed so that if events occur differently than you thought they would, then you can adjust for them.
A good model also allows you to build scenarios around what the financials would look like given different sets of circumstances.
How You Can Forecast
There are a number of different forecasts that link together to give you a three dimensional view of your business.
- The Profit and Loss forecast – which may just simply be your budget month by month.
- The Cashflow forecast – which shows the cash movements and timing based on a month by month and often week by week basis (this allows you to forecast funding requirements or surpluses through the period being forecast).
- The Balance Sheet forecast – this ties the Profit and Loss and Cashflow forecasts together. Forecasting the balance sheet of a business allows you to monitor important ratios such as Liquidity ratio to ensure you are not going to have issues meeting your commitments, Equity ratio to show how much of the business you own versus you lenders and creditors, and so on.
If you aren’t quite sure how to create these different business forecasts, give me a call and I can guide you on the forecasting journey. This will help you to be aware of the good and bad financial weather that may be in your future so that you can plan for it.