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The difference between a budget and a forecast

November 4, 2022

The difference between a budget and a forecast

Ariel Gottfeld

Ariel Gottfeld

A budget and forecast are two integral, financial components of a business. However, there are significant differences between the two. In this article, we’re going to discuss a few different things:

  • Forecast budget definition
  • Difference between budget and forecasting
  • What's better: budget versus forecast
  • And much more

If you’re working on creating a budget and forecast, this is one article that you won’t want to miss.

What is a budget?

Before discussing how different a budget and forecast are, it’s important to know what a budget entails. A corporate budget isn’t much different than a personal budget, and to put it simply, this is an estimate of revenue and expenses for a predefined period of time.

Both a budget and forecast should be re-evaluated over time because business is ever-evolving.

For example, a business may create a budget today, but then:

  • Sales increase
  • Inventory costs drop
  • Labor increases
  • Etc.

However, it’s important to recognize that a budget is all based on assumptions and unknown variables. For example:

  • Revenue per month over the last quarter was $100,000
  • Expenses per month were $90,000

If everything stayed the same in the business and market, it would be easy to create a budget. The problem is that inventory prices can rise or drop, market trends can wane or improve and more.

In an effort to improve the accuracy of a budget and forecast, the business may run forecasts for:

  • Labor
  • Materials
  • Overhead
  • Etc.

Budgets can be static or flexible, and they’re something that businesses of all sizes rely on in their operations. You can think of a budget as where a business hopes to be in the future.

How do you make a P&L budget?

Budgeting and forecasting software is the easiest way to make a P&L. What is a P&L? This is a profit and loss statement, and it’s one of the most important statements in the business world.

But is it really a budget?

Yes and no.

A budget and forecast work on future outcomes. You can create a profit and loss statement at the end of a quarter, but when creating a P&L budget, you’re going to:

  • Plan for the business’ profits
  • Plan for the business’ losses

Creating a P&L budget will require you to plan for all of the profit and losses during a specific period of time. You'll create one of these statements much in the same way that you make a P&L at the end of the quarter:

  • Add up all potential profits from all income-generating activities
  • Add up all of your losses during the budget and forecast period
  • Subtract the cost of goods from total revenue to determine profit
  • Subtract losses, or expenses, from the total profit

You'll also want to account for interest, depreciation, amortization and taxes, too. All of these points are expenses that will lead to your final profit and loss calculation.

What is a cash flow forecast?

A budget and forecast are confusing because they both estimate the:

  • Income of a business
  • Expenses of a business

When discussing cash flow specifically, the business is looking purely at the cash left over at the end of the forecast period. For example, if you have $100,000 in cash inflows and $80,000 in outflows, you’ll have $20,000 in total cash flow.

However, a forecast differs from a budget because you use data to generate a more accurate reflection of a business’ financials rather than an assumption based on hopeful scenarios.

How do you make a cash flow forecast?

You’ll find the main difference between a budget and forecast is that when you make a cash flow forecast, a lot of additional figures are considered. A traditional way to generate a cash flow forecast without using software is to do the following:

  • Determine the starting cash of the business by running cash flow
  • Next project all of the income coming into the business
  • Finally, project all of the outflows during the period
  • Add the starting cash and income coming into the business together
  • Subtract the projected outflows from the sum of starting cash and income
  • Of course, a lot more can go into a budget and forecast of this type. However, cash flow goes a lot further than just this if you want to create an accurate forecast. Forecasting requires you to review your historical data so that you can properly forecast future:

  • Income
  • Sales
  • Fluctuations

For example, you may be running cash flow for the months of October through January 1. If you’re a retailer, sales are likely to increase during this period. You can run past statements and find that sales improve 10% during this time period compared to the previous quarter.

You can then use this parameter to adjust your forecast for greater accuracy.

A budget and forecast are more accurate with the more data that you have at your disposal. Data can help you determine how sales may rise or fall or review what expenses you may have during a specific period of time.

Expenses are a major concern for many businesses because you’ll need to consider everything from:

  • Fixed costs
  • Variable costs
  • Rising costs and inflation

Many businesses and accountants will run multiple forecasts to have a sort of best case and worst case cash flow scenario. Cash flow forecasts are rarely 100% accurate, but they can help you understand the general cash flow that you can expect during the forecast period.

Budget Versus Forecast: Key Differences

A budget and forecast have key differences:

  • Budget: Plans for where a business wants to be at the end of the budget period.
  • Forecast: A more accurate expectation of a business’ operations.

Businesses want to reach their own goals, and a budget and forecast can help them do this. However, forecasts often have a greater accuracy because they indicate what a company’s financial health may be based on past data available.

In short, a budget uses judgment forecasting while forecasts will use quantitative forecasting in their calculations.

Think of a budget as the “ideal goal” for the upcoming year, while a forecast is more of a data-driven analysis of past sales and expenses to determine a more accurate representation of a business’ operations.

What comes first, a budget or a forecast?

Budgets. In most accounting rooms, it’s the general census that:

  • Budgets are created as a sort of goal marker
  • Forecasts are run throughout the year to see if the business is on track to meet their budget and financial goals

However, there are always exceptions to the rules and norms, which must be considered. Some businesses will generate long-term forecasts before having a budget. These forecasts are made from using previous budgets and past indicators. New businesses in their initial stages of operation will likely create a budget first before trying to run forecasts.

What is better?

Neither. A budget and forecast are different. Budgets allow you to know where you want your business to go based on assumptions. Forecasts will create a more accurate picture of what your business is likely to reach by the end of the forecast period.

Businesses will likely use both a budget and forecast in their operations.

However, forecasts are normally more accurate assumptions of a business’ future and cash flow expectations.

Cash flow forecasting software

Now that you know the difference between cash flow forecast and budget, it’s apparent that a budget and forecast are an important way to manage your business’ operations. Financial health is one of the most watched metrics in business. Using software to run a budget and forecast is a smart use of your time.

The right solution will offer:

  • Fast calculations
  • Ease of running reports
  • Save you time
  • Save you money

So, why not make the forecast and budget process easier? Use a platform, such as Cash Flow Frog, to begin running your cash flow forecasts and statements.

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