read and summarize two articles

By Joe DePiro

Creative Fashion Presentations & Forecasting

May 1, 2017

The objective in this article is to build and justify your sales estimate for the next three years.

How to forecast sales?

Building a sales forecast is a double exercise. You first need to build the numbers using a bottom-up approach and then sanity check them using a top-down approach.

Forecasting sales of location based businesses

If you are operating a location driven business, such as a store or a boutique, the best thing to do is to go in the street where your business will be based and look at how many customers the other shops or restaurants in the street have.

If you feel that your concept is too different from the other shops on your street, then try to find a street with similar traffic that has shops with a similar concept to yours.

When you go on street due diligence like this you need to make sure you that your analysis isn't biased by the day of the week and the attached seasonality. Make sure you cover at least one weekday and a full weekend.

Once you have estimated the traffic, all you need to do is to apply a conversion rate to deduct the number of sales.

In the end your sales forecast should look like this:

· 600 people come to the street every day

· 1 out of 10 will enter in the shop: 60 people / day

· 1 out of 5 people coming to the shop will buy: 12 sales / day

· The average price of a item is $80: $960 of sales / day

· The shop is opened 30 days in a month: $28,800 of sales / month

Forecasting the revenues of an online business

If you are on online business you can use Google Adwords keyword tool. This tool will give you an estimate of the traffic associated with each keyword as well as an estimate of the number of clicks you should get for a given ad campaign. Then to build your volume forecast you need to figure out how much you can afford to spend on Adwords that will give you an estimated number of clicks. You can then apply a conversion ratio to the number of clicks to estimate you number of sales.

Your sales forecast will be something like this:

· Marketing budget: $6,000 / month

· Average cost per click: 8 cents (.08), hence 7,500 clicks

· Conversion rate: 4%, which results in 300 sales

· Average basket: $30, which results in a monthly sales forecast of $9,000

Sanity checking your sales estimate

Once you have build your volume and your sales estimates you need to sanity check them using a top-down approach. The idea here is to compute the implied market share of your forecast and check how realistic it is. If the number seems too high then you probably missed something.

If you are a capacity constraint business such as a hotel or a restaurant you also need to ensure that the volume makes sense compared to your capacity. For example if you have a hotel with 10 rooms and forecasted 270 nights per month then you are implying that your hotel will run at 90% capacity which seems high.

You also need to factor in the seasonality and check that it is reflected properly in your sales forecasts.

Why the bottom-up approach is king

There are two reasons why you need to build your sales forecast using a bottom-up approach and not a top-down approach.

The first one is that, once you have started trading it enables you to check your assumptions and adjust your forecast based on your actual numbers.

For example, if you estimated that your salesmen will be able to get in average x meetings per month but they are actually getting y. Just replace x by y in your model and you have a revised, more accurate forecast on which you can take business decisions.

The second reason is to prepare your discussion with investors. If you use a pure top-down approach and say: "the market is worth $300m and we are going to take 1% market share the first year which gives us $3m revenues", the investor is going to reply: "I challenge that, prove it to me". And you are in trouble.

Now if you say: "we have 2 sales representative who will be able to generate 50 leads per month. We estimate that we will close 10% of our leads, which gives us 5 sales per month at an average price of $50k so $3m of revenues in year 1". The investor will most likely say nothing, give a phone call to a competitor or an expert and ask him if 25 leads per salesman per month makes sense and what is the average success rate in the industry. If you are not too far off (remember that you need to demonstrate that you know your market) the investor will come back to you and ask you to run your model with the numbers the expert gave him (which you will then challenge because it is your market and you are the expert!).

The bottom line is that using a bottom-up approach enables a constructive discussion based on the assumptions used to build the number whereas the top-down approach is a black box and it just looks like you took a guess. No one likes to invest money based on a guess.