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What is a rolling forecast?
The main purpose of financial forecasting is to predict future financial outcomes using a variety of inputs, including historical enterprise data, market trends, economic assumptions, and customer expectations to provide an estimate of what will happen in the future. To be effective, forecasts must support adaptive decision-making to consider changes in market conditions, global economic shifts, and unforeseen events.
Forecasting in the past generally happened at the same time as budgeting, and was set to cover the same time period. The issue with this, clearly, is that the forecast quickly goes out of date and doesn’t allow organizations to pivot in the face of change. It also means that as you progress through the year, you have a shorter view into the future.
As a result, standard practice is to now adopt a rolling forecast model - which entails completing a forecast for a fixed time period in the future, and then updating it on an ongoing basis (most commonly monthly or quarterly). That way, you always have a view into the future that reflects the business conditions of today.
Since forecasts are meant to be as accurate a prediction of the future, the past actuals can result in the changing of the future forecast. For instance if revenue is trending lower in H1, then H2 may need to be adjusted downward as well if the trend is presumed to be a good indication of the future.
The forecast is a living, breathing document that is meant to be changed based on market conditions. The comparison to actuals is a good barometer. A good example of a rolling forecast would be a 3+9: three months of actual followed by 9 months of forecasted data (all within the same board).
The frequency of updates and the amount of time a forecast stretches into the future will depend on three factors unique to the organization in question: namely, how fast market conditions are likely to change for your organization, the rate of growth you’re experiencing, and the internal resources you have available.
What is the difference between a rolling forecast and a budget?
A budget is an annual plan for the fiscal year based on the past year’s historical data. Finance teams work with individual departments to create a static view of the company’s revenue and project expenses. It's a static document.
Usually, forecasting is done at a higher level (top-down) and a faster pace compared to the budget. It focuses on topline areas like revenue forecasting, all the way down to operational expenditure.
Good forecasts are driver-based, meaning one input can provide many details.
An example would be:
Driver: Grow sales by $100M
Outputs: Increase number of sales reps required, CSMs required to support new customers, increase marketing spend to feed the top of funnel, engineering capacity, etc.
Forecasting is usually an exclusively finance team exercise. Some organizations have chosen to abandon annual budgeting completely in favor of rolling forecasts. If that is the case, then department heads will be involved on a more frequent basis - either monthly or quarterly.
How does a highly accurate rolling forecast impact an organization?
Introducing rolling financial forecasts might seem like a monumental shift for the finance team. What you also need to consider are the benefits of accurate rolling forecasts.
Real and actionable insights
First of all, the rolling forecast gives finance teams real-time, actionable, and strategic insights that guide your business forward. Based on this data, your organization has the agility to reallocate resources based on dynamic conditions.
Makes scenario planning easier
Also, as a financial forecasting tool, rolling forecasts make scenario planning easier. Since the rolling forecast takes into account recent churn, revenue, expense, and other metrics, you can more accurately project what over performing and underperforming looks like and update your scenarios.
React to changes
Companies can leverage rolling forecasts to adjust their approach to meeting goals as new information is gathered throughout the year. Rather than relying on a static budget to make their decisions, stakeholders can react to fluctuations or uncertainties that may be impacting the economy.
Set realistic and attainable goals
A rolling forecast is an ever-evolving plan with regular updates. For organizations, it is an easy way to keep a realistic set of strategic goals. Even when the targets shift along the way, rolling forecasts keep your company moving forward to success.
Steps to create rolling forecasts
Outline your objectives
The framework of your forecasting process depends on the objectives based on which the financial team decides the financial forecast and how the forecast will be used.
Some common objectives are:
- Driving growth
- Reducing costs
- Maximizing customer retention
- Headcount planning and optimization
Goals and objectives will help determine the aspects of the forecast that need the most focus.
Consider the time frame
You should remember that the time horizon is not set in stone and it can change as your company scales.
The three factors to consider when deciding the frequency of your forecasting cycle are:
- Availability of resources
- Pace of growth
- The volatility of your business
Fast-growing businesses may require forecasts on a shorter time horizon: monthly or every 1-2 quarters. Less volatile business can do with quarterly forecasts.
Leverage driver-based forecasting
With a driver-based approach, updates are focussed on the key data that determine the key financial outcomes for your company. You can account for the most important variables that impact finances. This method allows you to forecast finances strategically, making your rolling forecasts more efficient and accurate.
Encourage participation
A rolling forecast is only as good as the data that goes into it. To ensure accuracy, your financial team needs updates from managers and contributors throughout the organization. Financial planning software provides access to reports and planning templates for all stakeholders and contributors involved in the process.
At this stage, the FP&A department should identify the value drivers most likely to contribute to achieving success instead of focusing on too many goals.
Align company goals
It is not uncommon for businesses to plan their operations and finances separately from each other. This can lead to disparities in resource allocation.
The most impactful rolling forecasts integrate operational and financial planning, enabling forecasts to represent the entire company.
Gather data
Gather data from multiple sources, business applications, and data lakes. Financial planning software integrates with your most important data sources to create a foundation of data integrity. The software eliminates the need to manually gather information from every corner of the business.
Find a system that works
Spreadsheet-based rolling forecast process can be tedious and prone to inaccuracy. Instead, an integrated business planning platform offers tools to streamline the forecasting process and improve data analysis. The result would be a rolling forecast budget that has higher precision and efficiency.
How to create more accurate forecasts?
1. Maintain accurate historical data
Clean and accurate data is critical for generating useful and reliable insights. It needs to be collected from a wide range of relevant sources, both internal and external.
We know that the most efficient FP&A functions will be those that can drive real business impact through creative analysis of both historical data and multiple data sets. But organizations struggle to aggregate, format, and harness the power of historical data.
Financial planning software simplifies the data preparation process for financial planning and analysis teams. By automatically importing data from multiple business systems (CRM, ATS, data lakes, spreadsheets, and others) and cleaning it, the FP&A software frees up your headspace to focus on strategic decision-making.
Another reason why FP&A departments prefer software to maintain accurate historical data is that they don’t have to juggle multiple spreadsheets or sort through email threads. Business planning software has powerful collaboration workflows to gather input from colleagues and other departments.
2. Incorporate scenario planning
Let’s start with a question: Is your finance team getting bogged down in complex spreadsheets trying to capture scenario planning opportunities?
If so, most probably, by the time the finance team offers strategic insights, your business would have moved on in the decision-making process.
Flexible scenario planning empowers your finance team to manage volatile environments, plan for the best and worst-case future outcomes, and capture all possibilities for an optimal path forward. Now more than ever, your ability to plan for all circumstances is critical and scenario planning lets you do that.
A next-generation scenario planning feature lets you create and test as many scenarios as you like at the application level. Then, you can run these scenarios to compare your model data simultaneously across several future paths. Scenario planning grabs the best parts of traditional scenario planning, building alternative paths atop a baseline scenario and enhancing it.
Scenario planning on Pigment does the following work for you:
- Rates scenario on any model with a few clicks
- Compares all possible outcomes on a single chart or grid
- Changes data and formulas for any particular scenario
- You can even share scenarios across all applications
3. Use tools that allow flexible reforecasts
To a large extent, technology is changing the way FP&A teams make decisions. The FP&A teams are expected to be able to reforecast in a window of a few days, all while sifting through unprecedented levels of data.
Flexible reforcasting solutions help FP&A professionals deliver deeper insights and stronger financial forecasts to steer the business performance effectively.
The key features of integrated business planning tools that allow flexible reforcasts are:
- Automated data preparation
- Creating unbreakable formulas
- Running comprehensive what-if scenarios in minutes
- Optimizing collaboration with personalized workflows
The agility finance teams gain from these features helps them serve the broader goals of the organization by adapting plans, budgets, and financial forecasts to changing business conditions and industry trends.
Methodologies used for forecasting
Many organizations’ initial approaches to financial forecasting include using pro forma statements modeled after income statements, balance sheets, and cash flow statements. Pro forma forecasting of these statements can provide a picture of the organization’s financial health and future performance, as impacted by changes in economic and market conditions. Most organizations run multiple scenarios based on different market and economic assumptions to provide alternative views of future performance.
Quantitative methods are used extensively in producing financial forecasts. They form the basis of scenario planning, where models are prepared that model the impact of market, economic, and internal factors. While they are used extensively in forecasting, it must be understood that additional factors that influence performance can't be quantified and many organizations adjust their forecasts to use qualitative approaches, relying on expert knowledge and experience to predict performance rather than historical numerical data.
The Harvard Business School has identified seven quantitative approaches that are used in financial forecasting that must be considered:
- Percent of Sales
Calculate future forecasts using a percentage of sales approach. This would include modeling forecasts using the cost of goods sold, which is typically based on a percentage of sales revenue. - Straight Line
Forecast using assumptions about historical growth rates that will remain constant. A good place to start with a forecast, however, does not take into consideration market, economic and supply chain issues. - Moving Average
Forecast using a weighted average of prior periods, such as building a forecast by averaging the previous quarter performance. This is an underlying approach in rolling forecasts. - Simple Linear Regression
Forecast metrics based upon the relationship between dependent and independent variables. - Multiple Linear Regression
Forecast metrics based upon two or more variables impacting a company’s performance. The ability to account for several variables that affect performance should lead to a more accurate forecast. - Delphi Method
Forecast involving consulting internal and external experts who analyze market conditions. Results are compiled and circulated until a consensus is reached. - Market Research
Obtain a holistic market view based on economic, market, competition, and consumer expectations. Important for new businesses when historical information is not available to understand these trends.
Budget planning and forecasting in Pigment
To learn more how budget planning and forecasting work in Pigment, click here.
