Budget vs. Forecast - The Great Confusion

Distinguish or suffer

Dear finance executive,

Budgeting and forecasting are fundamentally different processes. In short:

• A budget is a social contract of stretch targets to motivate performance.

• A forecast is an unbiased prediction of an expected outcome.

Ignoring this fundamental difference leads to confusion and conflict.

Below is a more detailed comparison how budgets and forecasts differ:

Distinguishing budget from forecast solves typical issues

• Sales and production planning
  Issue: Sales creates a sales plan, but production complains that it’s unrealistic and unworkable.
  Solution: Sales should continue to aim high, but production needs a separate, realistic sales forecast to plan capacity.

• Performance management
  Issue: Management approves the budget in December. In January, the forecast is manipulated to match it - “we can’t abandon the budget in the first month!”
  Solution: Emphasize that the forecast is not a budget update. If there are no other changes, the difference between the forecast and the budget reveals the stretch built into the target.

• Automating budgeting
  Issue: Finance uses algorithms to automate budgeting. But targets are social contracts, not formulas. Algorithms also can’t calibrate the right stretch to motivate teams.
  Solution: Don’t let algorithms define targets. You can use mathematically-connected driver trees to link financial outcomes to assumptions, but leadership must choose suitable assumptions.

• Investment proposals
  Issue: Business leaders create a realistic business plan for an investment, but top management demands more ambition.
  Solution: Investment decisions must be based on realistic forecasts of cash flows. Use different scenarios to understand realism vs. stretch. Introduce stretch performance targets in addition to the business case.

• Investor communication
  Issue: Management wants to use budget figures for external guidance. Often the budget is not very ambitious because management does not want to overpromise to investors.
  Solution: Be clear about what you communicate: A stretch target or a commitment.

• Cost management

  Issue: Functions are asked to plan costs in line with the budget even though they know actual needs will differ

  Solution: Use the budget to set cost-reduction targets, but forecast actual spend to ensure resource availability and avoid surprises.

Practical takeaway: Budgeting and forecasting serve different purposes. Communicate the difference clearly. You can even make the stretch in the budget explicit (“we expect to hit 80% of our targets”).

Eager to hear your thoughts!
Sebastian