Choosing the Right Approach
The final piece of your business idea is the financial projections. You need to have a fairly solid idea of what your business is going to cost to run and how much revenue it’s likely to generate. We recommend using a basic bottom-up method, where you generate estimates for each part of the business and then combine them to get the big picture.
As an entrepreneur starting a new business, you have a major disadvantage when forecasting revenue and expenses: you have no historical data to base your facts on. This means that you will have to obtain data for similar companies in your industry and geographic area. Your expertise, and the expertise of your team, will also be invaluable.
Part One: The Sales Process
The first part of financial projections is looking at your sales process. How long will it take for your company to see payment after someone becomes a potential customer? Typically, customers move through the following stages:
If you’re a hot dog vendor with walk-in customers, then your sales process is quite short. If you’re selling luxury vehicles, then your sales process could be quite long. To help you get an accurate picture of how long your sales process is, you can use this template. We have included some example activities for a small business selling custom bicycles.
|Sales Stage||Activities in Our Process||Average Length of Stage|
|Lead||Customer visits our website and fills out contact form||0-48 hours after first website visit|
|Prospect||Customer service representative contacts customer, confirms information, and obtains additional details in order to provide a custom quote.||Within 24 hours of form being submitted|
|Qualified Lead||Customer service representative re-contacts customer to provide custom quote. Credit check is also performed.||Within 72 hours of last contact|
|Committed Lead||Customer signs agreement for custom bicycle.||0-72 hours of custom quote|
|Customer||Company ships bicycle.||Four weeks after agreement is signed|
|Customer sends payment.||0-48 hours of shipping confirmation|
|Total Average Length of Sales Process||Four and a half to six weeks|
You should also consider these factors when you are estimating the length of your sales process:
Part Two: Sales Metrics
The next part of your financial projections is sales metrics. You will need to determine:
So, let’s say that you have these figures for your new bicycle company:
Let’s look at an e-commerce company:
It can be very difficult to predict sales estimates. Always err on the conservative side. As well, be sure to allow for seasonal variances. As your business grows, you will be able to update end refine your forecasts with actual data.
Part Three: Expenses
The final piece of the financial projection puzzle is your expenses. Luckily, your major expenses should be fairly easy to estimate. Here is a list of things to consider.
General Overhead Costs
Advertising and Marketing Costs
Double and triple-check your expense forecasting to ensure you’ve accounted for everything.
Part Four: Calculating Ratios
You now have all the information you need to calculate the key ratios that will tell you if your business, as you have forecasted it, will be a success.
Gross Profit Margin
Gross margin shows you what the company has made in profit. It is calculated with the following formula:
The results are then multiplied by 100 to obtain a percentage. For example, let’s say that Acme Widgets made $100,000 in revenue last year. It cost them $50,000 to make the widgets. This means that their gross margin was 50%.
Operating (Net) Margin
The operating margin shows what proportion of the company’s revenue will be left over after all expenses are paid. Its formula is simple:
The results are then multiplied by 100 to obtain a percentage.
Head Count per Client
The final ratio that you should calculate is how many staff you need to support each client. If you know that a team of 10 people (including sales, support, and manufacturing) can make 500 widgets, and that each client buys five widgets at a time, your head count per client is one person per ten clients. This ratio will help you plan operations and resources to match your company’s growth.