An overcast is a type of forecasting error that occurs when an estimated metric, such as future cash flows, performance levels, or production, is forecasted too high. Overcasting happens when the estimated value is ultimately above the realized or actual value.
Overcasting stands in contrast to undercasting, which is when a forecast is made too low.
Key Takeaways
- An overcast occurs when a forecast or estimate is higher than the actual result.
- Typically, incorrect inputs or other errors in the forecasting process lead to overly aggressive or optimistic results.
- Overcasting can result from the necessity for analysts to estimate certain future metrics in the absence of hard data.
- Unforeseen circumstances can also lead to overcasting, where initial inputs may be correct, but sudden changes affect the outcome.
Understanding Overcast
An overcast is caused by various forecasting factors, primarily incorrect inputs. For example, when estimating a company’s net income for the upcoming year, an overcast could occur if costs are underestimated or sales are overestimated.
Overcasting and Undercasting
The impact of overcasting or undercasting is only realized after the forecasted period ends. Though often seen in budget forecasts for items such as sales and costs, these errors also appear in other estimates. Uncertainties and areas requiring estimation are where analysts must use their judgement. Incorrect assumptions or unforeseen events can lead to overcasting or undercasting.
Overcasting may indicate overly aggressive estimates or accounting practices. Continuous overcasting should be scrutinized, as employees might overpromise to satisfy upper management or to appeal to shareholders and potential investors.
Undercasting is the opposite of overcasting, where performance metrics are underestimated either due to incorrect inputs or unforeseen events.
Real-Life Example of Overcasting
Consider Company XYZ, which projects $10 million in sales for the year but achieves only $8 million. This $2 million overcast can result from various factors. During the budgeting or forecasting process, if the company overestimates its average selling price per unit or the number of units sold, an overcast results.
For instance, if Company XYZ expects to generate $1 million in net income but realizes only $800,000, that’s also an overcast. The reasons can be manifold, such as overestimating sales or underestimating costs like employee expenses, inventory purchases, or marketing costs.
Overcasting can extend beyond company budgets to other forecasts, such as the production capacity of a manufacturing plant. If a plant plans to produce 13,000 parts in a week but produces only 12,900, there’s an overcast. It can also apply to an investor’s portfolio—if an investor anticipates receiving $1,000 in annual dividends but collects only $750 due to a dividend cut, there’s a $250 dividend income overcast.
Related Terms: undercasting, forecasting error, financial projection, budgeting process, performance metrics.
