In our last posting, we talked about building an annual plan around three to five strategic initiatives. We also suggested that you open up your planning process to as many of your employees as possible . . . don’t restrict it to only you and your top managers. Make your planning process as inclusive as you can. However, these strategic initiatives are activity-based . . . these are the things we’re going to be doing to move the company forward. But the plan also needs a financial component. It needs what many people call a budget, but what we prefer to call a “profit plan.” A “budget” sounds restrictive, confining. It sets the boundaries for what we can and cannot do. A “profit plan” on the other hand, says “This is our target for profitability next year, and here’s how we intend to achieve it.” The Profit Plan probably looks identical to a traditional budget, but instead of a document that sets up boundaries, it’s a road map to the financial outcomes we expect to achieve next year. For a few thoughts on how to build your Profit Plan, please continue reading below.
Don’t produce a budget. Map out a Profit Plan. (Part 1)
The starting point for a Profit Plan is also the most difficult part . . . that is, a sales projection for the year. It’s difficult because in most cases, we don’t know with certainty who is going to buy from us, what they’re going to buy, or in what quantity they’re going to buy. So it’s a lot of guesswork. Educated guesswork perhaps, but guesswork nonetheless. Still, we can’t have a Profit Plan without some sort of sales target.
The best, most reliable way to project sales is customer-by-customer. If you’ve got thousands upon thousands of customers, this approach may not be practical, but for most small businesses, that’s not the case. So take a look at each customer (probably with the help of your sales people) and ask yourself:
- What did they buy from us last year?
- Was there some event last year (one that won’t be repeated) that caused them to buy more or less from us than they normally would?
- Do we have any intelligence that would suggest they’ll do more or less business with us the coming year than they did this year? That is, are they trying to acquire other businesses, open new locations, roll out new products or services, etc.?
- Thinking of our existing customer base, do we have opportunities to sell them more of what they’re already buying from us? Do we have opportunities to sell them additional products or services that they are not currently buying from us?
- How many new customers are in our sales funnel and how many of those can we reasonably expect to start doing business with us this year? For each of those that we think will be new customers for us, when will they start and at what volume?
- What about attrition? Nobody keeps every customer forever . . . they retire, move away, close their doors, all sorts of stuff that may or may not have anything to do with us. So how much business can we reasonably expect to fall off during the year?
- Are we anticipating any change in our pricing strategy that may cause our volume to go up or down?
- Do we expect the strategic goals (discussed in our previous post) to have an impact on sales. If so, we need to build that into our projection.
Obviously, this is an exhaustive process, but one that forces us to closely examine our customers and understand their evolving needs. It also takes our guesswork out of the realm of total speculation. It’s still guesswork, but as noted earlier, it’s at least educated guesswork.
Some companies may try to avoid this customer-by-customer approach using some sort of trend analysis. For instance, they may say, “Over the past three years, our sales have averaged an annual 10% increase, so we’ll just assume that trend will continue.” While this approach is better than nothing, it doesn’t offer any insights into the dynamics of the company’s customer base or market segment. But for some, it may be the only way to do it. For instance, a divorce attorney may have a good referral network, but doesn’t really have a customer base that will produce reliable repeat business. He or she can’t really count on the people who divorced last year, divorcing again this year.
At the risk of making this sales projection process even more burdensome, we need to footnote everything. At some point in the year, it will become obvious that some of our assumptions are way off base. We will say, “Wow! ABC Company isn’t doing one tenth of the volume we expected it to do. What we’re we thinking?” It’s unlikely we’ll be able to remember what we were thinking when we came up with our projection for ABC Company, but if we footnoted why we projected what we did, we can determine whether or not there’s a way to get it back on track. If not, we may have to revise our projection for that company.
OK, so we’ve got the sales projection component of our Profit Plan complete, or at least our first swing at it. In our next post, we’ll talk about the fixed and variable cost components of our Plan.