Financial Management
FP&A: Budgeting, Forecasting and Financial Planning
FP&A (Financial Planning & Analysis) is the finance function that builds the company’s forward-looking financial plan, compares actual results with that plan and explains why they differ. Accounting answers “what happened?”; FP&A deals with “what will happen, why was it different, and what should we do?”
Is a budget the same as a forecast?
No. A budget is management’s commitment at the start of the period and stays fixed through the year. A forecast is the current expectation of where the company is actually heading, and it changes with every new piece of information.
| Budget | Forecast | |
|---|---|---|
| Purpose | Target and commitment | Current expectation |
| Frequency | Once a year | Monthly or quarterly |
| Does it change? | No (unless revised) | Yes, at every update |
| Use | Measuring performance | Making decisions in time |
The gap between the two is the agenda management should be discussing: why is the distance between target and expectation opening up, and what would close it?
What is a rolling forecast?
A rolling forecast brings actuals into the model every month and re-forecasts the remaining period with current information. Some companies keep the horizon fixed — for example, always the next twelve months — so that visibility does not shrink as the year end approaches.
How is a driver-based budget built?
In a driver-based budget, numbers are not entered directly; the assumptions that produce them are. For example:
- Revenue = sales volume × average price (by product or customer group)
- Payroll = headcount × average cost × number of months (with hiring dates)
- Trade receivables = sales × days sales outstanding / 365
This structure has two benefits. First, assumptions become visible and open to discussion: instead of “sales will grow 25 per cent”, the budget says “volume will grow 10 per cent and price 14 per cent”. Second, variances can be decomposed: is the revenue gap coming from volume, price or mix?
I explain the reasoning in Why a budget is not a spreadsheet exercise and the implementation in the Budget & Forecast Management Model.
Budget assumption checklist
When I review a budget, the first thing I look at is not the numbers but the assumptions. The list below is a framework I prepared to make that review systematic:
| # | Check | Why it matters |
|---|---|---|
| 1 | Is every revenue line split into volume and price? | Variance decomposition is only possible this way. |
| 2 | Is the price assumption consistent with inflation and cost increases? | Margins can erode quietly while revenue grows. |
| 3 | Is the headcount plan spread across months and hiring dates? | The annual total may be right while the cash timing is wrong. |
| 4 | Have collection and payment terms been compared with past actuals? | The working capital assumption underpins the cash plan. |
| 5 | Is capital expenditure linked to depreciation and financing? | The income statement, balance sheet and cash flow should rest on the same assumptions. |
| 6 | Are tax and social security payments reflected in the cash plan? | Profit on paper does not show the payment calendar. |
| 7 | Has at least one stress scenario been run? | A single-scenario budget hides risk. |
How is variance analysis done?
Variance analysis splits the difference between actual and budget (or forecast) into its causes. The most common decomposition for revenue:
- Volume effect = (actual volume − budget volume) × budget price
- Price effect = (actual price − budget price) × actual volume
- Mix effect: the effect of a change in the share of products with different margins
A variance that cannot be explained is a variance that cannot be managed. FP&A’s value lies less in reporting the number than in making the cause of the difference visible.
KPIs and management reporting
The output of FP&A is the management report. A good management report presents a small number of indicators, with the same definitions every period, in a comparable form. For indicator selection and report structure, see the Management Reporting & KPI System.
Frequently asked questions
How does FP&A differ from accounting?
Accounting records past transactions and provides statutory reporting. FP&A uses those records to plan ahead and analyse performance. The two complement each other: meaningful FP&A is impossible without reliable accounting data.
Does a small or mid-sized company need FP&A?
It may not need a separate FP&A team, but it needs the work FP&A does: an assumption-based plan, a monthly comparison and explained variances. That work can also be done by a finance manager or a fractional CFO.