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Business forecasting is a crucial element of planning and long-term strategy for small businesses. While business is unpredictable and the financial projections you make certainly aren’t set in stone, a profit and loss forecast can be an excellent tool to guide decision making and capitalize on trends. But what is a profit forecast? Find out more with our definitive guide.
What is a profit forecast?
At the most basic level, a profit and loss forecast shows your company’s expected revenue and expenses over a given period, demonstrating whether you can expect to make a profit or a loss over the coming months. It’s important to remember that a profit and loss forecast isn’t a reflection of liquidity, as it contains non-cash items like depreciation and accounts receivable. For many businesses, a profit and loss forecast is an important tool that helps to manage risks and increase profitability.
How to do a profit and loss forecast
As a small business owner, one of your main goals is likely to be profit. That’s part of the reason why knowing how to do a profit and loss forecast is such a vital skill. The complexity and level of detail that goes into your profit and loss forecast is largely dependent on the scale of your business, but generally speaking, there are five elements you should include:
Revenue and cost of sales – This forms the basis of your business forecasting. Revenue consists of the money drawn from all your income streams, whereas cost of sales (also referred to as cost of goods sold) are the expenses associated with that income. For example, the cost of materials would count towards the cost of sales.
Outgoing costs – Next, you need to make projections for your day-to-day operating costs. This covers all your business overheads, such as utilities, rent, and insurance, as well as salaries and depreciation.
Finance costs and income – It’s also important to produce projections for your financial costs/income. This covers a range of financial activities, including investments and endowments, interest charged and received, and profit or loss associated with writing off business resources.
Taxation and profit – Then, you should consider taxation. Work out your potential profit before tax, then the amount of tax you are likely to pay (you can base this on the historic taxes your business has paid), before working out your overall profit.
Dividends and retained surplus – Finally, it’s a good idea to include projections for dividends and retained surplus. Technically, this projection has more to do with how profit is allocated than how much profit your business can expect to make, but it’s still an important element of business forecasting.
Once you’ve worked out these financial activities, you can estimate gross profit, operating profit, and net profit, giving you a solid basis from which to conduct long-term strategy.
Business forecasting tips and strategies
So, now that you know how to do a profit and loss forecast, it’s important to maximize the accuracy of your calculations. While no financial forecast in a business plan is ever 100% accurate – after all, it’s only an estimate of incomings and outgoings – there are several steps you can take to ensure you’re getting the most realistic projections possible:
Make assumptions about the economic/competitive environment – While you’re producing your profit and loss forecast, it’s vitally important to develop assumptions about the business environment within which your company sits. Will competition intensify? Is there any upcoming legislation that is likely to influence the business? Then, factor these environmental elements into your projected budgets.
Use profit and loss forecast templates for UK businesses – When you’re constructing financial models and forecasting revenue, there are many different tools you can use to speed along the process. Profit and loss forecast templates for the UK (many of which can be found online) can help you make an accurate financial forecast without constructing an entire financial model by yourself.
Adjust your business plan if necessary – After you’ve produced a financial forecast, you should discuss it with the rest of your company’s management team. Then, you can make further adjustments to really maximize the effectiveness of your business forecasting. For example, you may decide to trim your operating costs further to ensure an even healthier profit margin.
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Found this article interesting? Take a look at our guide to tracking expenses for small businesses