10 Ways to Validate a Sales Forecast
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You have an interesting new business and you're working your plan, thinking about seeking investors when you come to the sales forecast. How do you validate a sales forecast when you're talking about something new? Of course there's no data. So now what?
I've been on both sides of the table on this one--as an entrepreneur, seeking investment and an angel investor and as a business plan contest judge, evaluating new business plans. I've also spent a lot of years in the middle--as consultant to investors and as consultant or co-founder for the entrepreneurs. Given that background, here are some thoughts that might help you validate sales.
- Sales are the best validation by far. Real, actual sales, even if they're just a single involved customer, or a small account. Sales means people or companies are spending money to buy what you're selling. That's light years ahead of blank projections.
- A buy-in by a potential large customer or distribution channel is also a good validation. Getting them involved with a prototype, beta program, or early investment is great.
- Overall market demographics. How many of your potential customers (the more carefully defined, the better) are there? How do they divide into meaningful measurable groups. This injects reality into your forecast. Know the top numbers in the market.
- Avoid the small-piece-of-a-huge-market gambit. This is the top-down forecast that starts with how much money is spent on say, home entertainment, then projects your business will get some tiny piece; like half a percent. That is never convincing. Don't do it. It's deadly.
- Break a forecast down into pieces. Divide and conquer. For example, if you're forecasting a web application, show it as a function of projected inbound traffic, clicks from paid search and visitors from organic search, then conversions, subscriptions, renewals and attrition. Granularity makes a forecast feel more solid. As another example, if you're forecasting a restaurant business, break it down into chairs and tables and meals served, drinks, dinners, lunches, by day of the week and, at least as a sample point, hours of the day.
- Always acknowledge capacity issues. The restaurant has chairs and tables, and the web application has bandwidth and users. Don't ever get caught forecasting beyond capacity.
- Look for patterns from other situations, similar products or business offerings, similar markets. There are introduction patterns available for televisions, color televisions, personal computers, faxes, cellphones, etc. Is your business going to be like any of them?
- Never pretend there won't be competition, even for the newest of the new. If you can't find anybody competing already where you want to go, look harder. Look for how people are already solving the need. Before I did the early business plan templates I started publishing in 1984, there was nobody else in the market but I was competing with books, classes, and magazine articles. I could also anticipate that if my stuff caught on, others would appear in the same market.
- Distrust the data analysis. I had great success once with an epidemiology model, predicting penetration of personal computers in Latin America would behave like the spread of disease; one user infecting others, with different economic strata having different propensity for infection. But even that, and most of the mathematical analytical methods, are always subject to the problem of using the past to predict the future. They're good as background, to temper your thinking and educate your guessing. But they don't stand alone very well. Do all the analysis, get as much data as you can, but be realistic. The best forecast is a well educated guess.
- Review and revise forecasts frequently. Write down your assumptions and track how they've changed over time. Your forecast is just the first step in a process.