Sales Forecasting: Retail and Subscription Businesses

Your vision is to realistically estimate expected sales.

You want to know what you can expect over the next year or more with a sales forecast. Where do you begin? You could start with finding out how to create a sales forecast. One could argue that this is a necessary task to complete if you want to be prepared for the future of your company. Let's go over what needs to be on a sales forecast, risk factors, who does the forecasting, and the math

What is sales forecasting?

Sales forecasting uses historical inputs like sales from income statements from previous time periods in order to predict future sales, profits, number of customers expected, and anything else related. It’s recommended to go a few years back for this and not just the most recent year. If you look at the sample spreadsheet later in the article you will see years or months are going across the top, similar to other financial documents like balance sheets and income statements.

Why do you need to forecast sales?

This type of analysis helps to understand the health of a business, show all stakeholders where it’s at, and the plan for the future. The idea is to be able to continually make course corrections over time. The end goal is to see your expected sales revenue. Additionally, this document will provide insight into planning resources, marketing strategy, who you may need to hire, and more.

Who might do the actual sales forecast?

It’s common for product leaders, sales leaders, or sales reps to contribute to this and own it. This may be different if you are a smaller business, but those are the most common.

How does sales forecasting differ from a budget?

Sales forecast: Insight into what a business is doing to promote growth and expansion. Includes the number of products or services expected to sell, the projected cost of these, and the total expected profit over a time period. Needs to include information about what is going on in the market and word on the street from sales reps. It’s important to take this information into account and your years of experience, not just strictly numbers. Forecasts tend to have adjustments as time goes on and let you know if the company is headed in the right direction. Forecasts aren't going to be the analysis of actual compared to expected.

Budget: An outline that provides insight into the future financial operations in order to attain revenue goals. Includes sales, revenue, COGS, operating expenses, overhead, net, and gross profit. Budgets are meant to be fixed and not have updates throughout time. Budgets can be thought of as the financial direction management wants the company to go. Another way to think of budgets is as a baseline that will be used to compare actual results and how they vary from the expected performance.

Considerations and challenges

The definition of a sale is important to understand. In your forecast, you want to ensure you are noting sales when ownership changes hands or a service is performed. For example, if you expect a large purchase order in April for widgets, but won’t deliver until June, then the sales should be recorded in June as that is when the transaction took place. If you are working with someone on a service contract, and you talk in October but service starts in December, that is a December sale.

Challenges include sometimes you may have shorter than ideal history of sales especially in the case of start-ups, you may run into data that isn't quite 100% accurate, seasons can influence certain months, and it's common for terms to vary here and there.

Risks and factors to look out for

Going through a PESTEL analysis prior to forecasting will help in identifying risks that could affect your forecast, but the major areas to consider are below. Changes in anything related to these areas can affect your sales so you want to make sure you think about each one and what’s going on in the industry, your business, and globally.

• Political- think about everything going on with Covid and the impact
• Economic- changes in consumer buying power
• Social- changes in consumer choices and preferences
• Technological- new competitors or innovation in the industry
• Environmental- new requirements, supply chain and material availability and prices
• Legal- changes in contract requirements, vendor agreements, minimum wage, etc.

What types of models or approaches are out there for sales forecasting?

Top-down

This is when you determine the total size of the market and then determine which percentage of that market is planned to capture. This is often a mistake made by new businesses and start-ups. It’s a mistake because there are so many variables that go into this such as starting with the basics of how are you going to get customers into your purchase funnel?

Bottom-up

This is a mindset of thinking from the other end where you start with how many customers do you think you can actually reach, get on the phone, how many will actually buy, etc. For example, if you market to 1,000 people, you may get 100 clicks or visits, and you can hope that 10 buy. Of those 10, what is the average spend each?

What type of math are you going to need?

The formulas below will assist in completing a forecast, but if you would rather, there are a lot of software options out there available. A couple that rank highly are OnPlan and Fullcast.

These examples include some very basic math and terms to know in order to determine your sales growth in example 1 and in example 2, it’s basic math to predict the expected sales through the end of the year. Example 3 looks at forecasting the recurring monthly revenue at a software business where it’s subscription-based.

Example 1: Shirt company DEF has 3 years of sales data. 2019 was $110,000, 2020 was 140,000 and 2021 is on track for $200,000.

We want to determine the sales growth over the years in order to analyze the reasons, the sales team and activities we did, the marketing strategies, and to get a better idea of what to expect in upcoming years. To do that, follow below.

Sales Growth = Current year sales / previous year sales

Sales Growth 2021 = $200,000 / $140,000

Sales Growth 2021 = 42.9%

Sales Growth 2020 = $140,000 / $110,000

Sales Growth 2020 = 27.2%

If you were to go back a few more years, you could plot these figures and see a trend in sales growth. You can see just from this example that this shirt company appears to be on a positive or upward trend from previous years.

Example 2: Shoe company ABC opened in 2021 and has 11 months of sales data. They have made $250,000 in those 11 months. Each month has been fairly consistent.

This example is a new business just starting so if they wanted to forecast the remainder of the year of sales, what would they do?

Step 1: Avg monthly sales rate = Revenue YTD / Number of months

Avg monthly sales rate = $250,000 / 11

Avg monthly sales rate = $27,727.27

Step 2: Potential sales revenue for the remainder of year = Avg monthly sales rate X Number of months remaining in the year

Potential sales revenue for the remainder of year = $27,727.27 X 1 month left in the year

Potential sales revenue for the remainder of year = $27,727.27

Step 3: Annual sales forecast = Total sales revenue YTD + Potential sales revenue by end of the year

Annual sales forecast method 1 = $250,000 + $27,727.27

Annual sales forecast method 1 = $272,727.27

The result is $272,727.27, so assuming things stay stable, by the end of the year, that is the revenue they should expect to see. This method is often referred to as historical forecasting. Note that this doesn’t take into account things like seasonality. Being end of year, if your business is dependent on holidays for significant revenue, you will want to consider that and multiply the revenue by growth percentage as we will do in example 3.

Example 3: Let’s go through one more example with a software company, and this time considers growth.

Let’s say they had $100,000 coming in each month of monthly recurring revenue (MMR) and each month, it grows about 10%. They note the churn rate is about 1% each month.

Forecasted rev. next month = (MMR X 1 + growth) - (MRR X churn)

Forecasted rev. next month = ($100,000 X 1.10) - ($100,000 X .01)

Forecasted rev. next month = $109,000

What would a sales forecast actually look like?

So now you have some basic concepts down. This is a template you could use as a basic guide for what a forecast could look like. This template has an example of a retail business at the top, where units are being produced and sold. The second example at the bottom is a subscription model, where people pay for a service at the beginning of each month and there are no setup or contract fees. You will notice the terminology is different depending on the type of business. If you had several products that make up your forecast, you could insert rows and list the products out but these are the key components to include.

In summary, sales forecasts can be modified as time goes on. As a matter of fact, according to Salesforce, it’s tough to get within 5%. They also state that sales leaders are accurate within the 10% range more than 50% of the time. You should choose some milestones to review this. It’s common for people in sales leadership roles to be tracking against this fairly consistently.

Written by Nicole Hullihen December 3rd, 2021

Recommended references to learn more about sales forecasting.

https://www.indeed.com/career-advice/career-development/formula-for-sales-forecast

https://www.indeed.com/career-advice/career-development/forecast-budget

https://leanplan.com/how-to-forecast-sales/

https://www.liveplan.com/blog/the-best-way-to-forecast-sales-and-revenue/

https://smallbusiness.chron.com/calculate-wages-based-sales-per-week-19241.html

https://www.salesforce.com/resources/articles/building-a-sales-forecast-guide/

https://www.saleshacker.com/sales-forecasting-101/

https://www.investopedia.com/ask/answers/042215/whats-difference-between-budgeting-and-financial-forecasting.asp