6 Ways to Make Financial Forecasts More Realistic

Here are a few tips to help you make your forecasts as accurate as possible. 

1. Use Multiple Scenarios

You should devote your predictive energy to at least two scenarios, one optimistic and another cautious. This is especially true if there is uncertainty surrounding major factors that could impact your business, such as government regulations, new competition, or even overall economic growth.

2. Start with Expenses

In general, it’s much easier to predict your expenses than your revenues. Start building your forecast model by outlining your fixed expenses, things like rent, utilities and insurance. You can be almost certain these costs will occur in the coming quarter/year.

From there, think about the costs that could fluctuate directly with revenue. If revenues grow by 5 percent, you can probably expect your cost of sales to also grow by about 5 percent.

Finally, project the expenses over which you have the most control. Identify which discretionary costs you might slash if business is rough, or where you will invest for future growth if you exceed expectations.

3. Identify Your Assumptions

Any forecast requires you to make assumptions about things that are outside of your control. The best way to manage these assumptions and avoid subconscious bias is by explicitly identifying and writing them down. 

The assumptions you should list include how much the market will grow or shrink, changes in the number of competitors and technological advancements that will impact your business.

4. Outline Each Step in Your Sales Process

You should create projections for each step of the sales funnel, and use that to arrive at the top line number. 

As an example, the revenue projection for a pet supply store might involve the following steps:
a. Identify the total addressable market (i.e. number of pet owners) in the area. 
b. Estimate what percentage of that market can be reached through marketing efforts. 
c. Estimate what percentage of pet owners exposed to that marketing actually come into the store. 
d. Estimate what percentage of people who come into the store will actually make a purchase. 
e. Finally, estimate how much the people who do make a purchase will spend on average.

5. Find Comparisons

Assess the plausibility of your financial forecasts by comparing your projections to the results of comparable companies. For certain niche businesses, it can be hard to find data on comparable businesses, but at the very least you can compare your projections to your own operating history.

Look at certain key financial ratios such as gross margin, revenue per square foot (for retailers), and total headcount per customer. If your projections include one of these ratios improving by over 10 percent, you might be getting too optimistic. The same goes for when your projections for these ratios are significantly superior to every single competitor in your industry.

6. Constantly Reassess

These forecasts should not be static. Regularly evaluate how close your operating results mirror those forecasts, and make changes to reflect any new information. The more up to date your forecasts are, the better prepared you will be to make informed strategic decisions.

Read more: What's Financial Projections ?

Edited by: 浪子

Bibliography

John Boitnott. (2015). 6 Ways to Make Financial Forecasts More Realistic. Retrieved from 
https://www.entrepreneur.com/article/246592