For anyone who is interested in forecasting or budgeting, this book is a great read. I think it gives some very good insight into what a successful approach to forecasting and budgeting for an organization looks like. Many companies do not truly understand the power in forecasting properly. This book illustrates how, with the right approach, forecasting can benefit your organization.
Some of the interesting points that I take away from this book are:
- Budgets and forecasts are not the same. A Budget is a control tool, a desired future state of the organization’s performance. It is a target for revenue and/or constraint of resources. A forecast, however, is a projection of where the organization’s financial performance is headed. To the extent this future state is not desirable or different than the target, action must be taken.
- Forecasts are always wrong because the future cannot be predicted. The purpose of a forecast is to drive action. Any action taken based on the forecast changes the future and thus the forecast’s accuracy.
- A good forecast is Timely, Actionable, Reliable, Aligned, and Cost Effective.
- Bias is the ultimate cancer of a good forecasting process. Bias undermines the value added by the forecasting process and supports bad management behavior.
- Cycle time – the frequency in which the forecast is produced will depend on the volatility and materiality of forecast changes.
- Time horizon – the forecast should project far enough into the future to encompass the longest decision making lead time for the business.
- You can never eliminate judgment from a forecast. Assumptions are quantified and included in a forecast based on judgment, judgment is used in analyzing and evaluating the results of the forecast. Many times judgment is the most efficient way of estimating portions of the forecast, as long as it is unbiased.
- Risk is often not understood. Failure to recognize the difference between discrete and continuous risk is common. Distribution of risk is also often skewed – or non-normally distributed. When analyzing risk you need to understand the distribution of possible outcomes and their probabilities.
- The forecast should be produced by someone independent (unbiased), knowledgeable, and technically capable.
- The equation for change is V x D x S > R. This means vision for a change with dissatisfaction for the current state with first steps taken all have to overcome resistance to change. If any one element is missing, resistance will overcome the initiative for change.
The book also outlines some interesting suggestions for modifying conventional budgeting processes and in some cases completely abolishing a corporate budget altogether. The book promotes what is called the Beyond Budgeting process, which seems to be quite interesting and probably better than conventional techniques, although I’m sure a challenge for most organizations to swallow.
I highly recommend the book whether you are involved in your company’s annual budget process or if you just want to learn more about the basics of forecasting for your own personal finances.