What is meant by forecasting and scenario planning?
Forecasting and scenario planning are often used interchangeably. However, both terms are different. Forecasting generally deploys historical quantitative methods. Forecasting techniques predict what will happen in the future by relying mainly on data from the past and present. In contrast, scenario planning is a step further and provides a more strategic output than forecasting. Scenario planning offers more flexibility and preparedness than purely quantitative forecasting models. It allows us to react and not predict these black swan events and gives us the ability to help assess risk measures at the individual client level.
How can companies improve their forecasting and scenario planning practices?
Both forecasting and scenario planning are essential tools for everyday managers. Forecasting determines how Companies allocate their budgets or plan for estimated expenses for an upcoming period. The forecasting is generally based on the projected demand for the Company’sCompany’s goods and services. Policymakers typically use scenario planning to anticipate change, prepare responses, and create more robust strategies.
However, most managers need help with the skills to make effective forecasting and scenario planning. The lack of skills and techniques affects the timely decision-making ability of businesses. Especially during the Covid-19 situation, it took time to predict any business’s future performance. Many companies have gone out of business, whereas some FMCGs and retailers have seen a profit surge.
What can improve a company’s forecasting and scenario planning practices? The following factors should be considered:
The way you look at your customer.
The consumer has always been considered the King, whereas some writers feel the consumer is your girlfriend. You cannot afford to make your girlfriend angry. Consumer behaviours and buying patterns have changed significantly recently, especially during the Pandemic. Some buying behaviours are permanent, whereas these exceptional circumstances temporarily affect some. E.g., travel and tourism have been hit badly. However, the sector will surely pick up after the end of lockdowns and travel restrictions.
The importance of understanding the consumer, his buying pattern, and any change therein, has gained tremendously. Since forecasting and scenario planning depends heavily on demand for goods and services, it is essential to incorporate consumer behaviour in the financial models.
Your data analysis techniques
Generally, the data analysis is done based on records and information. However, the past has now become more and more irrelevant. More advanced analysis techniques are emerging that improve the decision-making process. Social media analysis has gained more importance when many consumers use it to express their thoughts and interests in particular goods or services. Using social media platforms is one of the most popular online activities. In 2020, over 3.6 billion internet users were using social media worldwide; this number is projected to increase to almost 4.41 billion in 2025. A typical regression or more technical Artificial Intelligence (AI) model can help the company forecast.
The inputs to a forecasting model have changed significantly. Instead of the past trend, which still is an input to the model, weather data, cell phone data, social media content related to companies’ business and products, consumers’ location, unemployment rates, etc., are all new input variables that companies are taking in their financial models. These inputs are put through regression analysis to understand their correlation with product and service demand.
Identify where the data is and “free” it!
The availability of structured data is an essential and challenging task. Most managers need access to meaningful, quality data for timely and accurate forecasting. The common pitfalls in the availability of the data include:
- Past data are becoming irrelevant. Hence new relevant data needs to be identified;
- Due to businesses’ expansion, the data generally resides in different business units, departments, locations, and ERP systems.
- Data reside outside the organization.
Companies need to have an open culture of data sharing and store data in a centralized location that can be accessible to all. Data Warehouse’s concept does the same: it collects data from different financial systems within and outside the organization on various platforms and websites. The interest rate information is automatically updated and stored in the data warehouse daily for easy access for finance and project teams to link the same to their dashboard.
The time to act – is now!
The rate of change in the business environment has gone up exponentially. The relevant things five years back are obsolete, and something suitable today may become obsolete in the next two years. Therefore a robust and up-to-date forecasting mechanism is a must for an organization’s success. What can a Company do? Some of the actions necessary are:
- Have a dedicated forecasting team because of the importance of forecasting; it’s not a part-time job anymore. Having a dedicated team to work on your Company’sCompany’s forecast is crucial, as that’s where all the information for decision-making is prepared. Ideally, the team should be a cross-functional team with knowledge of different aspects of the business.
- Have a Data Warehouse and robust data system that keeps updated information. Manual intervention should be limited.
- The horizon of the forecast or scenario planning should be long-term. The bigger picture of the business helps you identify when additional liquidity will be available or required that requires capital issuance.
- Make scenarios and then play. During the current Pandemic, businesses have learned that nothing is impossible. Therefore, it is better to increase the number of scenarios and assign appropriate weightage.
Conclusion
Companies that have improved their forecasting and scenario planning processes are positioned well to take full advantage of the opportunities to change and enhance their decision-making capabilities in the face of crises. These companies are better positioned to be ahead of the market disruptions and innovation breakthroughs that are now incubated.
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