IN AN ECONOMIC environment that totters between recession and growth, businesses face increased volatility of demand. The management accountant’s visibility into the future drops from months to days, sales teams remain bullish until it’s too late, everyone forgets to tell operations the updated demand forecast and at the year end the CFO is left looking visibly uncomfortable trying to explain the gap in shareholder value.
The ability to forecast and plan effectively during these uncertain times is highly challenging. So what can be done to meet the challenges?
The first barrier to overcome is to understand what you should be forecasting. Too often group finance is presented with sales forecasts from business units which are the result of applying inconsistent monthly phasing formulae to arbitrary sales targets for the year. What needs to be forecasted is not sales, but the drivers of sales, ultimately reflecting customer behaviour.
The second barrier is that forecasting customer behaviour alone, however accurate, achieves nothing. Forecasting is only a useful activity if it in turn influences plans. Customer behaviour analysis is often left to the “multiple regression” maths graduate in the heart of the marketing or finance team. That is an important part of the process, but “multiple regression” maths graduates are not always the best at presenting the important messages to the rest of the business. Ultimately, if the trends are not communicated well, there will be no dialogue, no commitment and no action.
The final barrier to overcome is to assume that you will get one forecast exactly right. This would be folly in times of predictability, but in uncertain times it is madness to assume that you will make all right bets. Many different scenarios might play out and by considering several you will both improve your chances of accuracy and your ability to react.
Overcoming these barriers involves putting your faith in a forecasting process that focuses on simplicity, unity and agility, rather than complex financial modelling.
Building a top down forecast model
The most fundamental step in the process is establishing a model that unites the cross-functional management team around the real drivers of value in the business. Each business function will have their own KPIs that back up their forecasts. These pieces need to be put together in a way that drives the end goal. This model must be simple and visual, it must rise above nomenclature and accounting formats, it must unify the P&L, the cashflow and the balance sheet and it must be understandable across the organisation. It is all about simple cause and effect.
Using this technique, a management team can take into account all the key factors involved in a reforecast and can rapidly focus in on an appropriate set of cause-and-effect relationships.
Establishing the trends
The next step is to be able to access the data for these indicators for any combination of business units, territories, product groups and customer segments. We need to see the historical underlying trends of any of these data combinations and to be able to compare different versions of future outcomes immediately and visually. It is also enormously helpful to see forecasts in the context of straightforward benchmarks such as:
• Where will we end up if year to date performance continues in the trend of last year?
• Where will we end up if we achieve plan for the rest of the year?
• Where will we end up if we maintain market share for the rest of the year?
Discussing the scenarios
Having trended the indicators that drive value, management now have a forecast range. This leaves them with an informed view of the future possibilities. The next step is to discuss the impact of these different scenarios and the potential response plans. The executive team can use the ‘Business Driver Diagram’ to evaluate the impact of different decisions instantaneously. Instead of long winded re-calculations, the team must be able to change assumptions and quickly see the effect of those changes in the top down business model. This will improve the dialogue and help to build consensus around a series of plans to deliver the forecast range. A forecasting process which takes weeks using conventional techniques can be completed in a three hour executive workshop.
Delivering the forecast
Once all the scenarios have been investigated and the plans are in place, the business still has to be agile enough to respond quickly. This is achieved through increased communication and the direct involvement of line managers in the simplified forecasting and planning process. It is not about complexity; it is about simplicity and shared understanding.
Times of economic uncertainty present significant challenges to forecasting. This is when the process needs to go well beyond spreadsheets. Forecasting should not be restricted to the finance team simply to determine future outcomes, rather it is a vital part of the planning process that must influence action, otherwise it is a redundant activity.
Organisations must have a simple and unified vision on what is driving value, communicate the trends clearly, investigate different scenarios and be agile enough to act quickly. It is this, beyond even the most comprehensive of Monte Carlo simulations, that will separate the winners and losers in today’s environment.
Simon Bittlestone is head of commercial at Metapraxis
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