Forecasting

Financial Forecasting: The Best Practices in Strategic Advising

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Elon Glucklich

12 min. read

Updated August 16, 2024

Many people assume that reporting is the most important part of being a financial advisor. However, a strong financial forecast is really the heart of any successful advising relationship. The forecast provides the roadmap, and therefore the basis for advisory services. 

Sure, reports and key performance indicators (KPIs) do provide useful information, but a rock-solid forecast provides the plan. Measuring it is how you can then help your clients make better decisions.

What is strategic financial forecasting?

A financial forecast is any component of profits, cash or equity, projected forward. A full financial forecast, sometimes called a three-way forecast, includes the profit and loss, cash flow, and balance sheet. The typical range for a financial forecast is 2 to 5 years.

A financial forecast is built using business rules, like pricing, units, volume, AR and AP terms, and budgeting information like fixed and variable expenses. Forecasts also apply assumptions, like seasonality and growth targets. And lastly, they rely on past data to ensure the projections and assumptions make sense. 

If the business wants to sell x units next month, how many units have they sold on average in the last 6 months? Do they have a basis for the new projection? This combination of things is often called a forecast model. 

Due to all of these unique elements that come together, forecasting by its very nature is a strategic activity. The level of strategy depends on the number and accuracy of business rules and assumptions that are used. It is this combination of human estimates mixed with historical data, and business rules that create a strategic financial forecast.

Financial forecasting

A financial forecast acts as a roadmap for a business to achieve its goals.  

By combining sales goals and expense needs, together with other assumptions such as cash collection days and payment timings, the business can see into their future on critical elements like profit and cash and even equity.  

Done right, a financial forecast can provide a forward-looking view two, three, even five years into the future. This kind of view is incredibly important for small business owners to make confident decisions now that will carry their business forward and reach their goals.

4 key steps to build a strategic financial forecast

As a strategic advisor, your expertise and guidance are critical. You will help your clients make sense of their historical financial information, develop more accurate projections, and apply their business rules to the forecast.

1. Understand the business owner’s goals 

The goals of the business owner are determined during the planning stage—your “getting to know the business” stage. 

During this stage, the advisor should have a broad conversation with the business owner about their goals for the business. The goals include the obvious ones, like revenue and profit, but they also include their notion of the business opportunity, the value proposition, and the sales and marketing plan to support it. Those pieces will have a direct impact on the revenue potential for the business.

2. Keep the forecast reasonable through benchmarks and history

The financial history and industry benchmarks for a business set a baseline for what it should reasonably be able to achieve. 

Using 12 to 36 months of history, the advisor should determine the business’s unique patterns for revenue, gross margin, net profit, and ratios for major expense items. Then compare those to industry-standard benchmarks for the same data. 

The objective here is to qualify the business owner’s goals with real, historical data in order to arrive at a reasonable financial projection. Seasonality is a particular trend to watch, as well as anything else that forms a pattern.

The numbers every solid financial forecast needs: 

• •Quarterly revenue targets
• •Quarterly gross margin targets
• •Expense to revenue ratios for major expense categories like sales, general and administrative, and indirect labor
• •Major fixed expenses like rent or debt servicing
• •Quarterly net profit targets
• •AR and AP average terms

With this knowledge, the advisor should have all the information they need to develop a smart and strategic financial forecast. Begin with profit and loss, and specifically the sales, or revenue numbers. Next, bring in direct costs, and then expenses (fixed first, then variable). The whole time you should be monitoring net profit. Adjust the forecasted P&L when necessary to keep the net profit on target.  

For most small businesses, a monthly forecast for 24 to 36 months is typical. Beyond 36 months, a yearly or quarterly look is perfectly fine. 

3. Recognize that forecasts evolve over time

Once the initial forecast is built, the real fun actually begins! No forecast is complete on the initial working. The gross margin and net profit probably won’t represent the ideal, desired growth plan for the business. 

With a basic forecast in place, the advisor works with the numbers, shifting expenses, direct costs, and maybe even revenue where necessary, to model the ideal growth plan for the business. The growth plan should be one that represents the business owner’s goals, their value proposition, their sales, and marketing plan, and can support a positive or neutral cash flow.

Depending on the business, it could take 3 to 6 months of shifting, and comparing forecast to month-end accounting data, to arrive at a solid plan. And even then, by design, the financial forecast should evolve as the business grows and changes. 

4. Use the forecast to grow the business

The end result is a true roadmap for the business. Management decisions should tumble out of the forecast as tasks ready to act upon. 

Is it time to place the inventory order for the new revenue stream? Time to hire a new salesperson? Time to purchase that new piece of equipment? The financial forecast will tell you. All the answers are there. It’s not a report about past performance or a static baseline budget. It’s a plan and should be used as such. 

12 tactics for better strategic forecasting

Using a sales forecasting software tool that prompts for and holds the assumptions, makes forecasting easier and more accurate.

Complicated financial forecasting software that allows you to customize everything about a forecast seems tempting because you have options.

However, it’s actually those options that will get in the way of your ability to scale. You want to choose software that will keep things streamlined and standardized, keep your work simple, while still producing a useful working forecast and performance review.  

• •Integrated planning and strategy
• •Incorporates business model assumptions with standardized revenue and expenses
• •The ability for multiple forecasts and what-if scenarios
• •Directly build complete profit and loss, cash flow and balance sheet
• •Access to industry-standard benchmarks
• •Connection to accounting solution to help start forecasts and monitor progress

If you are experienced in financial forecasting and looking for tools and resources to take your advising further, check out LivePlan business planning software, the LivePlan Method for Strategic Advising, and Growth Planning.

Elon Glucklich

Elon is a marketing specialist at Palo Alto Software, working with consultants, accountants, business instructors and others who use LivePlan at scale. He has a bachelor’s degree in journalism and a Master of Business Administration from the University of Oregon.