Question

Financial Forecasting Assumptions – Financial forecasting projects a firm’s future financial needs. There are various methods used for forecasting. Discuss the various forecasting methods and the assumption that underlie each method.

Requirements:

500 words,

Answer 1

Answer:-

The financial forecasting methods can be distinguished into two categories, they are quantitative and qualitative. A quantitative approach relies upon historical data that can be statistically manipulated. A qualitative approach is applicable when historical data is not available and cannot be measured. This approach is at the discretion of the expert to forecast.

The types of quantitative methods of forecasting are

1) Time series forecasting:- This method used the data that is gathered over a period of time and and the trends are analyzed. This is a simple method and is accurate for smaller time periods.Some of the examples of this forecasting method are smoothing (it uses the averages of past results and giving more weightage to recent data), simple averaging and decomposition (the historical data is broken into trend, seasonal, and cyclical and the forecasting is done on each of them).

2) Proforma financial statements forecasting:- This method is generally used for Mergers and acquisitions (M&A) and startup companies and the financial statements are needed for capital raising.This methods take into consideration the sales and costs of the previous years and use them to forecast the future years.

3) Casual methods or cause-effect method:- This method assumes the cause effect relationship of one variable that is forecasted with the other variables. This method uses past time series of many variables that are identical for forecasting one variable.

The types of qualitative methods of forecasting are

1) Market research :- This method gathers the information such as views, opinions and surveys of customers and potential customers and analysed to approach at the sets of data to make decision making about the products future.This method is  expensive and time-consuming. It is useful method is used to identify changes in consumer behavior which will help in analyzing the future buying habits.

2) Delphi method:- This method uses questionnaires which are prepared and answered by the experts on an individual basis. Then the results are compiled and analyzed and a second questionnaire is prepared on the basis of results of first questionnaire. The second questionnaire is also analyzed by experts to get the results. This is an iterative method and the final results of experts are narrowed down o arrive at opinions after evaluation process.

3) Consumer surveys:- This forecasting method used the survey results of consumers by conducting telephonic telephonic interviews, personal interview and questionnaires which are analyzed to arrive at the conclusion to forecast.

4) Executive Opinions of various departments: - This method uses the opinions of the key personnel of the various departments of the company like financial, marketing,, sales , production, quality and operations etc. These opinions are gathered and analyzed to forecast the future of the company.

5) Scenario analysis:- This method uses various scenarios and gets various outcomes for them. The company then arrives at the more possible outcome from all the presented scenarios.