How Far Out Can You Reliably Forecast For Business Decisions?

How far out into the future can business forecasts and projections be reliable – or anything much above worthless? It’s a question every entrepreneur and CEO of a young and growing company has asked themselves. 

The answer to the “how far” part has two answers: 1) Not very far, and 2) With some exceptions. But does that imply that business forecasts are therefore worthless? No. 

In fact, they’re quite valuable, but knowing your audience and your intention is key.

All companies get asked for projections by prospective investors, lenders, board members, strategic partners - and the list goes on. These forecasts remain foundational for modeling and planning for all businesses. But not all forecasts are created equally. 

These business forecasts can have dramatically different lifespans. Shorter-term projections are generally considered more reliable, while longer-term projections are somewhat limited. 

Business forecasts are full of what statisticians call dependent and independent probabilities – things that might happen based on something else happening, and things that can happen completely independently of each other. If your sales pipeline grows, it’s very likely your revenues will grow. That’s a dependent probability. If your sales pipeline grows, there might be a merger in your target industry that cuts demand for your service in half. That’s an independent probability. 

Stack all the probabilities for all the events and forces that affect outcomes in a business together – the global economy, consumer tastes, financial markets, competitor behavior, weather and natural disasters, and so much more – and you’ve created so many outcomes dependent on so many uncertainties that forecasting six months out is hard enough. Forecasting five years reliably? Forget it.

Yet in the world of business, there’s still significant demand for both long and short term forecasts. Why?

Depending on your business type, age, and market, each forecast can have a different purpose. 

Long term analyses help companies translate vision into strategy and plot a multi-year direction. They speak to what is possible and, for most purposes, assume things go right in the out years. In the startup world, they’re important for investors who need the assurance that all the risk they’re taking on has at least the possibility of a big payoff. 

A five year forecast is never fully reliable — anyone who says otherwise is lying. Business leaders don’t generally need to be concerned about missing a fifth year projection because of the number of interdependent factors that can occur. 

But at the same time, if you’re creating a five year business projection, ensuring quality is key; long-term forecasts are key leadership tests that provide audiences with insight into your thinking, your risk assessments, your command of facts, your anticipatory skills, your realism – and also your potential of dreaming and achieving big. As a result, long term forecasts are used effectively to evaluate the ilk of a leader, rather than evaluating numbers.

Shorter term forecasts, meanwhile, are graded for accuracy. They’re used to set budgets rather than projections. Things like bank loans, sales commission payments, hiring plans, and fundraising depend on these short term analyses, so they’d better be within hand grenade distance of accuracy. 

Keep in mind that different kinds of companies also have different forecasting needs and capabilities. There is a major contrast, for example, in how B2B companies can use long term forecasting versus B2C companies. 

B2B companies often operate in a world of complexity, highly dependent on a series of vendors. B2B companies also tend to have more complex sales cycles. As a result, much smaller factors can entirely disrupt a three or five year plan. 

Think about the chaos that was caused in the tech industry by the collapse of Silicon Valley Bank, or about the ramifications of a tanker getting stuck in the Suez Canal. Certainly, these were major events for the global economy, but the ramifications were more significant for B2B companies, who were paralyzed by downstream interactions. The dependence on vendors makes them more vulnerable and less able to predict what’s to come — because any analysis would require an analysis of all related industries. 

By contrast, with the exception of the occasionally rising interest rates or Force Majeure events, B2C trends tend to stay largely consistent – though it’s hard to light the fire that gets them started. So from an analysis perspective, B2C interactions have fewer dependent probabilities and are therefore easier to forecast. Much of the information B2C analyses depend upon is publicly available, too, helping reduce uncertainty. 

An important caveat for business leaders today is that timing is everything. If you’re in a highly regulated business, or in one that could be highly impacted by political decisions and lawmaking, any analysis that’s performed this year ahead of the election is a gamble. The political landscape is a major factor that’s considered in most analyses, and it’s a factor that will inevitably have to be reconsidered based on the outcome of this year’s elections. 

At the end of the day — election or not — business forecasts are a highly effective tool for business leaders, who are looked to to have a map of what’s to come. Effective businesses are never run without some sort of plan in place. Business forecasts make it possible, providing leaders with the insight necessary to make key hiring decisions, growth objectives, and even something as basic as bonus expectations. 

Business forecasts allow business leaders to paint a picture of what’s to come. Understanding their uses is key. 

Steven Czyrny is a Consultant at The Analyst Agency LLC

This article is from an unpaid external contributor. It does not represent Benzinga's reporting and has not been edited for content or accuracy.