There’s more pressure than ever for finance teams to deliver accurate, updated forecasts. But increased volatility in the economy and business landscape can make that especially challenging. So what do you do when unforeseen factors disrupt your numbers?
Here are three proven ways you can get back on track.
Step one: Know you’re not alone
It sounds shocking, but only 1% of organisations achieve 90% forecast accuracy 30 days out. There appears to be a broad chasm between what companies think will happen and what actually does. Our CFO Indicator Q2 2016 report revealed that one in four CFOs met their sales forecasts, but of those who missed, 16% were off by 6% or more.
Most companies just aren’t able to accurately forecast operational basics like inventory, receivables, payables, and cash requirements, according to a study by REL Consulting. Companies often miss their working-capital forecasts by as much as 23%, which can represent hundreds of millions of dollars.
That’s because no matter how careful your analysis, your company is going to be rocked by surprises in an increasingly volatile world. Just think about Brexit—or the energy sector. Four years ago, the well-regarded Energy Information Administration predicted that oil would steadily climb from $100 to $145 a barrel through 2035. Today, prices are below $50 a barrel.
Step two: Retrace your steps
Let’s be clear: Knowing that everyone’s wrong is not an excuse to throw up your hands and say, “Well, we tried.” Companies that take forecasting seriously tend to be more successful. So when your forecast goes off the rails, take the time to look back and figure out what went wrong.
There are several major stumbling blocks people encounter time and time again. Ask yourself:
- Is the data bad? Problems can often be attributed to companies’ tendency to systematically underestimate costs and overestimate benefits during a project. Psychological bias, misplaced financial incentives, and poor management can lead to improper forecasts.
- Do we properly understand our business drivers? Many companies focus too narrowly on internal data and fail to incorporate wider market information into their forecasts. Choose 10 to 15 economic factors that have a historical connection to your company’s results.
- Were we caught off guard? In addition to using data that’s too narrow, many companies also fail to broadly investigate how a changing world might impact them. Firms that forecast well consider every possible scenario, no matter how unlikely or extreme, to hedge against uncertainty. Back during the first Gulf War, for example, American Express knew the war would hurt business. So it created a playbook filled with “if/then” propositions that provided quantifiable ways to defend against risks. Your playbook should include a best case (you have so much revenue that you can’t dream of spending it all) and a worst (impending bankruptcy). Being prepared means volatility won’t destroy your forecasts in the future.
- Is your forecasting cycle too long, or do you use outdated tools? Frequent forecasting helps to alert colleagues to differences in expectations early, before a problem spirals. You also may want to consider a cloud-based performance management system that allows you to constantly adjust your forecast by drilling down into granular areas. Did sales fall last month because you lost a few execs? Your system needs to let you go in and fine-tune it. A good system is also far more efficient and less onerous than traditional spreadsheet-based forecasting, meaning you have more time to have the right discussions that lead to the right information.
Step three: Right the ship
Companies that forecast really well treat the process as a team activity—there’s heavy collaboration between the finance department and business unit leaders. How do you do this?
- Align with leaders. Meet with them to determine what a forecast should reflect, and how. Then set up regular meetings with relevant parties, such as business unit leads and budget owners.
- Consider driver-based planning. After you’ve established frequent communication, you need to build a model—not a static spreadsheet—that accounts for the relationship between the varied information and business drivers you’ll receive. It’s a serious oversimplification to look at one-dimensional drivers of uncertainty in isolation. Being able to see how one affects another makes the data far more meaningful.
- Hold managers accountable. Getting it right requires buy-in across the organisation. Companies that prioritise successful planning hold managers accountable for agreed-upon forecasts and incentivise them accordingly.
Transparency is key. Establish a framework for honest dialogue that extends from analysts up to the executive suite. The ultimate goal is clear communication and zero surprises. At the end of the day, it’s about making sure you have an appropriate and realistic estimate and better chance of success.