5 Reasons Why A Financial Forecast Is Critical To Your Success
I love the journey of small business. I’ve dedicated my career to helping entrepreneurs build successful businesses. Watching leaders learn, problem-solve, and grow their businesses is a passion of mine. Small business is the lifeblood of the American economy, making up 44% of total economic activity and accounting for 62.7% of jobs added between 1995 and 2020, according to Forbes.
Success means something different to every entrepreneur, but failure does not. While some businesses are not built to last because of a fatal flaw in the delivery of their product or service, I’ve witnessed too many preventable failures.
I believe that a good financial forecast can mean the difference between success and failure for many businesses. Not all financial forecasts are created equal, however. Still, even a fairly simple financial model can increase clarity and improve decision-making. Here are the 5 reasons a financial forecast is critical to the success of your business.
- Businesses fail because of uninformed decisions. Financial forecasts lead to informed decisions.
According to a recent study, 82% of businesses fail because of cash flow mismanagement. I believe an underlying cause of the mismanagement is a lack of foresight. Financial forecasts may not be a crystal ball, but they can help predict the financial impact of important decisions.
Based on my experience, the financial forecast is arguably the most important tool that a business owner can have in their toolkit. Successful companies leverage a forecast to make informed decisions around things like hiring, capital purchases, fundraising, etc. A good forecasting tool also allows a business owner to run different scenarios to understand a range of potential outcomes. In the end, a financial forecast is not just a tool to help manage cash flow, it is a decision support tool that gives a company a competitive advantage.
- Stakeholders will believe in your decisions.
As a fractional CFO and CEO of a fractional accounting firm, stakeholder meetings are both my job and my business. Based on my experience, a financial forecast is a cornerstone tool necessary to communicate your plan and establish credibility with your stakeholders.
Think of a forecast as the financial roadmap for your business. A roadmap highlighting revenue growth, hiring plans, capital requirements, etc. When you’ve done your homework and built a detailed forecast based on realistic assumptions, it is confidence inspiring to your team and your stakeholders. A funny thing also happens along the way; you will gain confidence in your decision-making and improve your odds of success.
- Your business will be prepared for uncertainty.
Contingency planning is a practice I encourage all of my clients to engage in. Economic turmoil and insecurity have been the story of our recent economy. Prepared businesses are businesses that survive and potentially thrive during this uncertainty.
I am a proponent of trigger-based contingency planning. This is building plans based on a leading indicator or two for your business. Revenue, for example, is typically a lagging indicator. A leading indicator that may signal a slowdown in revenue is lead volume. A trigger-based contingency plan lays out decisions at certain increments of slowdown. If our lead volume decreases by 10% for 3 months, we will do x, and it decreases by 20%, we will do y. Contingency planning can be done on the flip side, as well, to plan for growth. A trigger-based contingency plan paired with financial forecast scenario analysis creates a robust planning tool that prepares your business for a range of potential outcomes..
- A Forecast gives you everything you will need for your annual budgeting
Management guru Peter Drucker once coined the phrase, “what gets measured gets managed”, and I couldn’t agree more. I’ve seen it over and over again throughout my career. I’m a big believer in budgets because they facilitate the measuring process. Successful companies embrace a budgeting process to create financial accountability and a culture of discipline.
A budget is a detailed annual operating plan that you create at the beginning of the year and then leverage to measure your results. By creating a robust financial model, you have everything you need to create an annual operating budget. In fact, it should be fairly easy. A forecast is essentially a living budget that gets updated in real-time. As you update your forecast throughout the year, you will get better at predicting future results and have a budget that is grounded in reality.
- You will avoid surprises at tax time.
Growing small businesses often have two things in common: unpredictability and limited cash. A large, unexpected tax bill at the end of the year can be devastating. By maintaining a good financial forecast throughout the year, you will not only have a good tool to manage your business, but you will have exactly the information your tax accountant will need to do proactive tax planning. Your forecast will help you to plan for the tax bill that is coming and avoid unnecessary stress.
About the Author:
Tom Gabbert CPA – Founder/CEO of Milestone Business Solutions
Tom Gabbert has been a pioneer and thought leader in the outsourced accounting industry since 2003. He is a successful entrepreneur who loves helping fellow entrepreneurs realize their dreams. Tom understands the unique challenges of starting, growing, and exiting a business. Not only has he done it twice himself, but he has guided numerous clients over the years through successful exits. Along the way, Tom has also helped his clients raise over $250M in growth capital (seed, Series A, Series B). He has a unique background that combines extensive financial and operational experience with a proven track record of client success.Tom is a Certified Public Accountant and holds an undergraduate degree in Accounting from the University of Notre Dame.
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