How to Create a Financial Forecast for Business
There's a saying: failure to plan is planning to fail. A financial forecast is a business plan and those companies that create one are planning for success. Creating a financial forecast is not a difficult task, but it does take some knowledge about your business, how the business makes money and how the business spends money. The challenge is understanding how to create a relationship between historical sales/expenses and future sales/expenses.
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Instructions
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Create a "common sized" income statement for the business. This is a financial statement that shows all items as a percentage of a common base. In this case, the base is sales. The easiest way to do this is via spreadsheet software like Excel.
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Divide each line item in the income statement (starting with sales) with sales. That is, if sales were $100, divide sales by $100 and then multiply by 100 for a percentage. Repeat this with cost of goods sold, gross margin, operating expense, and so on, until you have reached net income. Do this for all three years.
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Study the percentages from right to left. Note any anomalies or outliers. For instance, if travel expenses is 10 percent in Year 1, and 11 percent in Year 2, and then spikes to 30 percent in Year 3 try to understand the reason for the spike. If the spike is due to a one time event, disregard and use an average of the two normal years. Do this for each line item. Choose the percentage which is most in line with normal operations.
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Estimate sales. Let's say you estimate that sales will grow by 10 percent next year. Multiply the current sales figure by 1.10 to get the next year's sales figure.
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Multiply your new sales figure by the percentage picked for each line item. If sales are forecasted to be $110 next year, multiply this number by the percentage associated with each line item. If travel expenses average 11 percent of sales over the past 3 years, multiply $110 by .11 for the dollar forecasted amount for travel expenses for the upcoming year. This is your base case forecast.
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Tweak your base case and do a sanity check. Go through each line item. Ask yourself if the dollar amounts make sense. If you expect the cost of inventory to go up, increase the dollar amount for cost of goods sold. If management has made a commitment to reduce expenses, adjust expenses accordingly. Take note of all changes.
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