While at times used interchangeably, Budgets and Forecasts represent very different functions. Think of them as apples (go with me on this). Budgets are like Macintosh apples, as both are a staple item and can be found almost everywhere. Forecasts are more like Red Delicious apples, while very common they are not for everyone. Budgets are useful to multiple levels of the organization and Macintosh apples have multiple uses in the kitchen from cooking to baking. Forecasts are mostly useful to only the higher levels of an organization, and Red Delicious apples are most useful as an eating apple.
Budgets & Forecasts, like Macintosh & Red Delicious apples, are important in their own respects. While seemingly similar, each plays a very different role to different audiences.
Budgets represent a ‘quantifiable expectation of what you expect to happen for a period of time’. In other words, it conveys what you anticipate to happen in terms of revenue and expenses over a set time period, that can be used as a measurement tool. They are a plan for where you want to go that can be used as a point for comparison.
Typically Budgets are set through a standard process that involves input from managers at different levels, and are not changed or modified once approved. Budgets are used as a tool for comparison to actual results. (Budget vs. Actual Reports) This helps to highlight variances so that the organization can look into the cause(s) and, if needed, create a plan to bring the business back in line. Also, because they are not modified once approved and accepted, they are often used as tools for bonus and compensation programs.
Forecasts, on the other hand, are an estimation of what will happen. They are created and used at higher levels and are usually focused on a specific purpose, such as determining needs for resources. They are updated on a regular basis and can be long-term or short-term. They are not used for comparison to actual results, or to identify possible anomalies, but as an indicator of where the organization is going.
Forecasts act as more of a fluid tool with a particular focus. They are not meant to highlight high level variances, but rather to assist in developing plans for moving forward. Because they are not permanent they are not typically used in compensation packages.
Budgets and Forecasts are both useful tools in their own right. I am a big proponent of Budgets and the ‘Budgeting Process’. Even if a Budget is not embraced as a significant part of the regular financial review (although it should be), the process of creating a Budget is an important exercise for all levels of an organization to participate in. Forecasts, as we have said, are much more fluid and typically have a particular purpose, such as planning for labor or materials needs. Therefore the process is no less important, it is simply more focused on who is immediately impacted, versus one that is organization wide.
Now that we have said all that, when it comes to 2020 you can pretty much forget about Budgets. It is likely that Forecasts have never been used as much as they right now. The pandemic has impacted every industry, either positively or negatively, and many organizations that do not typically use Forecasts are finding themselves relying heavily on them. Budgeting sessions this year will be much more difficult than in the past.
No matter which tool you use it comes down to how well you know your business and how well you can see into the crystal ball.