Forecasting Accuracy: Measure and Improve It

Financial forecasting is the backbone of strategic growth, helping businesses set precise targets and align teams for the road ahead. By outlining clear objectives and setting the right benchmarks, any organization can create a unified, overarching vision for their business to follow.

When analyzing the current economic environment, startups especially have to pay close attention to the direction that their business is heading.

Whether a startup is raising capital or facing uncertain economic conditions, financial forecasting ensures that all senior management has greater visibility and guidance on the overall progression of the organization.

By analyzing current and historical data, financial analysts can use a forecast model to create a holistic report for management. This type of financial report is often used to plan for the future and help guide strategic decision-making among the executive team.

One of the biggest challenges finance teams face when creating forecasts today is the accuracy of their data. Traditional finance teams have to pull data from different platforms in order to create their forecasts. However, juggling multiple data sets from several sources is a painstaking process that's both time-consuming and prone to human error. Companies using machine learning algorithms that analyze 200+ variables (including social sentiment, weather patterns, and logistics data) improve forecast accuracy by 12-25% versus traditional manual methods.

So, how can CFOs, FP&A managers, analysts, and financial controllers ensure that their data is accurate and up-to-date?

If your team is looking to improve its forecasting accuracy, our experts are here to help. In this guide, we'll be explaining how to improve forecast accuracy and provide best practices to follow so your finance team can fine-tune its growth strategies.

What is Classified as Forecasting Accuracy?

Unfortunately, finance professionals don't possess the power to predict the future (would be nice, though!) But by using historical data and laying the right tech infrastructure early on, finance teams can improve their predictability analysis and forecast accuracy for the future.

According to FP&A trends, only 40% of organizations report high or good forecast accuracy, a 13% decline from 2021 levels when 53% achieved satisfactory performance.

“The forecast is accurate if the actuals tend to match the forecast within ‘small’ variances.”

Another definition they highlighted states,

“The forecast is accurate when all the assumptions and decisions are sound, correctly captured, sized and timed to.”

As you can see, both these definitions demonstrate that slight variations between forecasts and actuals are completely normal. However, the closer the finance team can get to their forecasted estimates, the better their financial planning will be. By having the right processes in place, finance teams can conduct variance analysis to study these differences and ultimately reduce the inaccuracies within their forecasting efforts.

Why Forecast Accuracy Matters

Accurate financial forecasting helps CFOs and finance teams make informed decisions about resource allocation, investment opportunities, and risk mitigation. By understanding why accuracy is critical, finance leaders can prioritize continuous improvement in their financial models.

How to Measure Forecast Accuracy

Although future outcomes can't be predicted with absolute certainty, finance teams often measure accuracy through variance analysis. By comparing forecasted figures with actual results, teams can identify consistent patterns of over- or underestimation and refine their models accordingly.

Common Factors Affecting Forecast Accuracy

Before refining your forecast methods, it's important to understand the main drivers of inaccuracy, such as changing market conditions, data silos, and unverified assumptions. Identifying these factors helps finance teams adjust their models proactively.

6 Ways to Improve your Forecasting Process

The whole purpose of improving accurate forecasting is to reduce the need for corrective actions later on. If revenue predictions continuously miss the mark, it'll lead to resource misallocation, missed growth opportunities, or compromised stakeholder trust.

By prioritizing accurate forecasting, finance teams can allocate budgets effectively, plan for unexpected shifts, and set realistic goals. Ultimately, a finance team should strive to build the right data processes to enhance forecasting accuracy, conduct variance analysis, adjust plans as needed, and provide greater visibility to senior management. In practice, this can involve cross-functional alignment with Sales to refine pipeline data or leveraging scenario planning tools to test multiple possible outcomes.

All of this can be achieved through the use of planning and forecasting software, which enables teams to unify data, automate calculations, and streamline reporting for better decision-making.

1. Keep your financial forecasts flexible

A company is constantly evolving. A financial forecast should reflect these changes. Basing decisions on outdated information can lead to flawed decisions. If you're relying on a single annual forecast, you're already relying on outdated information.

Build flexibility within your processes by switching to a rolling forecast model which will allow management to align on up-to-date data to support their strategic decision-making.

2. Maintain data integrity

Almost every decision the management team makes is based on data. That's why maintaining high data integrity should be a finance team's number one priority. By auditing changes and establishing permissions, finance teams can improve their data integrity for forecasting.

3. Take into account external influencers

Finance teams tend to take a laser-focused approach when analyzing their company's data. However, when creating your financial forecast, consider both the micro and macro environments that your company is operating in. Don't rely on historical data alone. Taking into account competition, market conditions, and the like will allow your finance team to adopt a more holistic approach to their financial forecasting and planning initiatives.

4. Consider all outcomes with scenario planning

To get a broader perspective of a company's financial health and improve agility across the entire organization, make sure to include scenario planning as part of your strategy. Scenario planning is the process of making assumptions about the future and predicting how your business will be affected.

As we've seen in recent years, the future is incredibly uncertain. Scenario planning helps teams plan for the unexpected. By creating multiple forecasts based on different scenarios, senior management is better able to pivot their strategy to continue their forward trajectory.

Learn more: Scenario planning: Strategic forecasting for finance teams

5. Take a lateral approach to forecasting

Most finance teams take a top-down approach when conducting business forecasting. However, the modern finance team seeks input from all functions. For example, talking to the Head of Sales may provide greater insight into the predicted revenue projections or actual demand from prospects. This allows the finance team to gain a more holistic view of how the organization is operating and performing.

In fact, many organizations will prioritize a corporate performance management strategy to better understand how each team works and supports one another.

Learn more: Ranking the best Corporate Performance Management Software: our top picks for 2023

6. Benchmark against competitors

When discussing competitors, it may be wise to analyze their performance to uncover any trends, strategy shifts, opportunities, or progress that they've experienced over the past year.

By doing a competitor analysis, you can have a side-by-side comparison to see how your company's performance stacks up against other players within your industry and adapt your strategy accordingly.

Additionally, analyzing top-ranking competitor content for targeted keywords can help your finance team identify content gaps and new opportunities to enhance forecasting accuracy. By studying their structure, level of detail, and user engagement tactics, you can incorporate proven strategies such as data visualizations, industry-specific examples, or interactive tools that resonate with readers. Implementing these insights in your own content can drive better search rankings and provide a richer, more practical experience for users seeking guidance on forecasting accuracy.

Taking a Modern Approach to Improve Financial Forecasting Accuracy

With the proper technical infrastructure and processes in place, any finance team can streamline their forecasting efforts and set their company up for success. In regards to start-ups who are looking to raise funding, improving financial forecast accuracy will also provide stronger investor reports and build trust among future investors.

By upgrading your tech stack and using a centralized platform for all your data, your financial analysts will be able to create reliable and accurate financial forecasts from a single source of truth.

Key Takeaways for Improving Forecast Accuracy

So, if you only could focus on 4 actions to improve your forecast accuracy, these would be the ones we would recommend:

Maintain a unified and reliable data source to reduce errors.
Leverage rolling forecasts and scenario planning to stay agile.
Collaborate across functions for more realistic projections.
Audit forecast vs. actuals periodically to spot systematic biases.

Financial Planning and Analysis Job Profile

For many organizations, the financial planning and analysis job profile entails overseeing core budgeting functions, forecasting accuracy, and overall financial strategy alignment. The FP&A professional is responsible for gathering data from multiple departments, analyzing cost structures, projecting cash flow, and delivering actionable insights to management.

By bridging the gap between specific departmental needs and high-level strategic goals, FP&A experts ensure that businesses stay on track for sustainable growth while effectively managing risks.