The business environment is ever-dynamic. The market situation in the first quarter of 2022 will certainly not be the same as the last quarter of the year. Due to rapid changes, a budget created to cover the fiscal year might have been wholly or partially useless by mid-year.
To keep up with changing business trends and perform accurate financial planning, business owners and CFOs need to adopt a flexible budgeting mode.
A rolling forecast is a continuous budgeting model that allows businesses to effectively and efficiently adapt to new trends. Unlike a static budget that does not give room for business changes and reality and only analyses past performance, the rolling forecast method allows you and your team to plan your business with real-time business facts and new data.
What is a rolling forecast?
Rolling forecast is a management tool that is used to predict future business performance on a rolling basis using historical data and key drivers. It considers year-to-date performance, current market situation, and other crucial factors to make a more accurate business projection. It also gives management and stakeholders real-time data to make better decisions.
A rolling forecast is a form of budgeting and planning regularly updated to incorporate changing circumstances throughout the year instead of a static budget that covers a fixed period. This forecasting method creates new forecasts at intervals on a rolling basis. It's an add-and-drop approach in which new months or periods are added automatically, and previous months or periods are dropped as they pass. This way, businesses can quickly adapt their financial plan to reflect recent trends.
Instead of a budget that projects revenue and expenses from January to December, rolling forecasts can be updated monthly or quarterly. On the surface, this may seem time-consuming. However, it is more accurate and realistic compared to a static budget.
Although a rolling forecast is a veritable planning tool for the financial team, the sales team can also use it to project sales and expenses on a rolling basis.
Rolling forecast vs. static budget
A static budget is a financial forecasting approach in which business performance is projected for a fixed period - typically one year. It is built from the bottom up by gathering revenue and expense forecasts from every business unit. The submitted forecasts will be compounded with other necessary information like finance and capital allocation to build the whole budget.
A static budget projects business revenue and expenditure for a fixed period of time, and it can not be updated or adjusted until the end of the set period. Any business changes or trends that may lead to an increase in expenses relative to revenue can not be reflected until the budget expires at the end of the predetermined time frame.
For instance, if inflation occurs in the middle of a fiscal year and affects the cost of production, the annual budget can not be adjusted even though business expenses would have increased and exceeded the initial projection. Such an approach may be detrimental to business performance since it affects financial planning accuracy and does not reflect the business reality.
Conversely, a rolling forecast is a flexible form of budgeting in which business performance is projected for a shorter period and reviewed at intervals. This approach allows businesses to quickly adapt to new trends without affecting performance. For instance, if a business updates its budget at the end of every month, it can easily adjust its plan to fit the latest trends.
A rolling budget is also desirable because it is driver-based forecasting. It does not just rely on past results to forecast future performance; it depends on historical data and necessary drivers such as market share, production volume, price, and human capital. This fosters better performance projection and accuracy.
A rolling budget may not replace a traditional budget. Some companies adopt a hybrid approach. They only use rolling forecasts to supplement their original budget. A business can keep its annual budget for record and convention purposes and use a rolling forecast as a periodic budget re-forecasting tool for bringing its financial plan in tune with market reality. The rolling forecast should contain just the important KPIs and less detail than the traditional budget to make this approach less cumbersome.
How a rolling forecast impacts an organization
Forecasting is a crucial planning tool for every organization to make sound business decisions. Whether large or medium size organizations rolling forecasting culture is necessary to navigate turbulent periods and circumstances such as sudden pandemics, inflation, or stock market crash.
A classic example was the 2020 COVID-19 pandemic. Due to the strict health guidelines, there was a sudden shift in the business environment. Several businesses had to adjust their operation to the new reality to remain relevant and functional. Throughout the period, nothing could be accurately predicted. The annual budget made before the pandemic became useless as it was no longer in tune with the sudden change in reality. It became necessary for organizations to review and adjust their plan on a rolling basis to reflect recent trends and market reality.
Planning shouldn't be a one-off yearly exercise because several unforeseen circumstances can undermine initial plans. Rolling financial forecasting will enable finance leaders to identify deviations from their initial plan earlier and make necessary adjustments.
A rolling forecast paints an accurate picture of organizational performance. Instead of using past results to forecast future numbers, rolling forecasts rely on key business drivers to help the business make strategic decisions.
Rolling forecasts allow organizations to monitor their operational activities and financial performance. It can help enterprises to recognize performance lapses and shorten planning cycles. It gives companies a realistic insight into the dynamics of their revenue, expenditure, and key drivers so that they can restructure their operations and allocate resources to boost profitability. It provides long-term data that can be used for agile planning, budgeting, and forecasting that fosters collaboration and effective business decision-making across all departments.
Lastly, rolling forecasts enables accountability.
Management will be able to determine the impact of their decision earlier and rectify it. They can answer whether the business is performing more than expected or underperformed. In the case of underperformance, they will be able to investigate and identify the possible reasons.
Conversely, they will know whether to stop, scale, repeat some actions, or make other necessary adjustments.
Benefits of a rolling forecast
The business environment is becoming more volatile. Any unexpected business trend, government regulation, economic situations, or financial market performance are high-risk situations that may affect business performance. Rolling forecasts ensure your business is well prepared for such circumstances. You continuously review your plan and budget to accommodate changing events and business trends.
Higher financial forecast accuracy
Rolling forecasting has higher accuracy than traditional forecasting. Businesses consider all necessary internal and external variables when forecasting business performance. They also predict the impact of these variables on future performances. They have up-to-date data to support their assumptions and arrive at more accurate projections.
Rolling forecast is a flexible planning method that allows businesses quickly respond to changing circumstances. It gives decision-makers a bank of long-term data that can be utilized to make strategic decisions.
It makes financial presentations easier
Whether you are giving reports to your investors or pitching to raise funds, rolling forecasts make it easier to present and explain the reasons behind your data.
Your investors or prospective investors are likely to have questions about your forecast process. Either way, you forecasted future performance increase or past underperformance. Rolling forecasts keep you up to date on your data and performance metrics. Since your financial models are regularly updated, you can vividly remember the reasons behind them. As such, you can give accurate and informed answers to any questions instead of guessing.
Easy cash flow tracking
Finance experts can easily track cash inflows and outflows through rolling forecasts. This consequently leads to better financial management and allows the finance team to optimize flow effectively across all value chains.
It enables performance and growth tracking
Unlike traditional budgets, rolling forecasts give you a reason to revisit your plan from time to time. Comparing your actual performance to projections gives you an insight into your real business performance. You will be able to identify what is working and what is not earlier and make necessary adjustments.
How to implement a rolling forecast
Define your business goals
The first step in the rolling forecast process is to identify your business objectives. The forecasting team should know and consider the end goal of the business during the projection process. Your rolling forecast might be ineffective if your business goals were not considered from the start. To ascertain your objectives in these circumstances, you should consider the usability of the forecast and the people who will make decisions based on the forecast.
Identify and include all necessary contributors.
Financial planning is not a one-person show. Ensure you get buy-in from all the required stakeholders and contributors. You need accurate information from all business units for a practical financial forecast. You need both qualitative and quantitative data for accurate forecasting. Even if it's easier to track some metrics, the department head, and team leads will be in the best position to give qualitative information to aid accurate projection.
As such, all department heads, team leads, finance teams, and other necessary persons should be actively involved in the planning process. They should know the company's forecasting process and why you are adopting that particular budgeting approach. Ensure all participants are insightful, reliable, and objective. They should be people who can be held accountable for both business success and failure.
Choose your forecast horizon
You have to decide your time horizon. How far into the future do you want your forecast to go? There is no fixed time frame; you can choose a 6, 12, 18, or 24 months time horizon. Your choice will depend on your business model. How sensitive is your business to changing market conditions, and how long is your business cycle?
Choosing a shorter forecast period may give room for better accuracy. However, it may not be far enough to provide more insights into business trends. It would be best if you chose a time frame long enough to accumulate business trends and short enough to be accurate and aid actionable decisions.
After deciding your forecast period, you should also choose your forecast increments. That is, how often you want to update your forecast. It can be updated every week, monthly, or quarterly. It also depends on your business model and industry.
If your industry is such that it quickly fluctuates, you may choose regular forecasting like monthly. If you select a monthly increment for a 12 months forecast cycle, at the end of each month, it will be dropped, and a new month will be added to the end of the forecast period.
Determine the number of details required
When forecasting, it is best to keep it simple and not make too many assumptions. The amount of detail you require may depend on the length of your forecast period. Typically the longer the forecast period, the shorter the detail, and vice versa.
However, it is advisable to add all necessary details for accuracy and to avoid bad decision-making consequences for the business.
Ascertain key metrics you want to forecast
You should put together a list of metrics you want to track and predict.
Such metrics may include; revenue, expenses, customer acquisition cost, gross margin, customer lifetime value, runaway, churn and burn rate.
Identify key business drivers
Rolling forecast technique relies on business drivers, unlike static budgets that only list a line of items. Rolling drivers rely on key performance and operational metrics. It also tracks key performance indicators that may affect business performance.
To identify your business drivers, you should first define your business goals and then determine their drivers. You should keep the list of your goals short and streamlined. You can figure out your value drivers from your past business success. For instance, your key drivers may be price and volume if you are performing sales forecasts.
Other typical business value drivers include;
- Economics of scale
- Access to Capital
- Skilled employees
- Strong customer base
- Favorable business climate
- Business branding and marketing strategy.
Verify the sources of your data.
Your rolling forecast is as accurate as your data; it is a budget based on real data.
For your rolling forecasting to be effective, you need an objective and reliable data source. The team should fact-check and recheck its data source to ensure it is of high quality and trustworthy.
Create multiple scenarios and sensitivities
No forecast can be 100% certain; the only certainty there is being wrong. When preparing a rolling forecast, it is essential to test possible financial outcomes with assumptions. You should create multiple scenarios with possible outcomes with either low, medium, or high probability of occurrence. Your scenarios should be based on reality and provide objective information that is a total departure from your initial budget.
Scenario planning gives the company a glimpse into possible situations and what is likely to be the outcome. Knowledge of possible scenarios and outcomes helps companies make better decisions.
It is advisable to use; upside, downside, and base scenarios in your rolling forecast. As business trends change and you update your forecast, you should create new possible scenarios and test the outcomes.
Measure your actual and estimated forecast.
The purpose of rolling forecasts is to help businesses adjust to changes. After implementing your rolling forecast, you should regularly compare your forecasted and actual performance. While reviewing your actual performance against the forecast, ascertain the possible cause and make necessary adjustments if you discover any variance.
Automate your forecast process
One of the best practices for implementing rolling forecasts is to use efficient forecasting software and tools rather than a mere spreadsheet. You can not solely rely on excel to create your rolling forecast. Preparing your financial forecasts in a spreadsheet involves manual efforts, which may lead to several errors.
Data is the backbone of rolling forecasts. You may need to import data from different systems to create scenarios to complete the job. Your forecast process is prone to human error as your data is transmitted manually.
Even when you finish preparing your baseline forecast in a spreadsheet, the data might have been outdated for rolling forecasts and analysis. Secondly, if you are using excel, you are using spreadsheets as your database. When your database expands, it may become too heavy for the spreadsheet.
Consequently, the system may start responding slower or even crash.
Performing your rolling forecast manually, especially with excel, can be labor-intensive and lead to inaccuracies. Automating the whole process will save you time, energy, and avoidable mistakes. It is best to use modern FP&A solutions that automate your data collection process. All data from both financial and non-financial sources will be gathered into a single data model. It makes it easier to create multiple scenarios and perform variance analysis using different drivers without switching between applications and files.
Rolling forecast is a dynamic budgeting and financial planning model that considers regular changes. Despite several advantages of rolling forecasts, many organizations prefer the traditional approach because they believe rolling forecasts is time-consuming. Automating your forecasting process with modern software and tools can eliminate these perceived disadvantages.
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