The Forecast

A financial forecast is used by a company's management team to determine if the current month's sales and costs are going according to plan. It is a tool to keep costs in line with the sales for the current month.

This report initially comes from the long-range plan, or business plan. The long-range plan is a five year plan that a company develops to guide the company into the future. The first year of this long-range plan is called a budget. This annual budget is the only year of the long-range plan that is divided into monthly forecasts.

From the budget, these monthly reports are then updated monthly with new information that is known. The budget is usually done in the fourth quarter of the previous year, and as the new year progresses, the budget information becomes old. It should be updated with new information about sales and costs.

The business needs this monthly information to run the company and protect profits. Materials and supplies to make product are based on the current month's sales. Labor needed to produce the product or service is hired or layed off based on the predicted sales volume for the month.

You can see how important it is to have an accurate prediction of how the current and future months will look in terms of sales. If sudden events happen, such a large decrease in sales, the management must act quickly and not order more material and supplies than needed. Labor must be scaled back to meet current requirements.

Many businesses operate with little room for error when it comes to their profit. A quick response to known changes in sales helps save profits or keep losses to a minimum.

It always goes back to the Business Plan:
Usually, the top management will always go back to the original five year business plan.If the current numbers are off from the plan, then management will need to explain what happened.

This is called bridging the gap, and is nothing more than explaining the difference between the business plan numbers and the current numbers.