How to Forecast Your Profits

Forecasting, particularly on a short-term basis (one year to three years), is essential to planning for business success. This process, estimating future business performance based on the actual results from prior periods, enables the business owner/manager to modify the operation of the business on a timely basis. This allows the business to avoid losses or major financial problems should some future results from operations not conform with reasonable expectations. Forecasts - or Pro Forma Income Statements and Cash Flow Statements as they are usually called - also provide the most persuasive management tools to apply for loans or attract investor money. As a business expands, there will inevitably be a need for more money than can be internally generated from profits.

Facts Affecting Pro Forma Statements

Preparation of Forecasts (Pro Forma Statements) requires assembling a wide array of pertinent, verifiable facts affecting your business and its past performance. These include:

Data from prior financial statements, particularly:

a. Previous sales levels and trends

b. Past gross percentages

c. Average past general, administrative, and selling expenses necessary to generate your former sales volumes

d. Trends in the company's need to borrow (supplier, trade credit, and bank credit) to support various levels of inventory and trends in accounts receivable required to achieve previous sales volumes

Unique company data, particularly:

a. Plant capacity

b. Competition

c. Financial constraints

d. Personnel availability

Industry-wide factors, including:

a. Overall state of the economy

b. Economic status of your industry within the economy

c. Population growth

d. Elasticity of demand for the product or service your business provides ( Demand is said to be "elastic" if it decreases as prices increase, a demonstration that consumers can do without or with less of the goods or service. If demand for something is relatively steady as prices increase, it is "inelastic.")

e. Availability of raw materials

Once these factors are identified, they may be used in Pro Formas, which estimate the level of sales, expense, and profitability that seem possible in a future period of operations.

The Pro Forma Income Statement

In preparing the Pro Forma Income Statement, the estimate of total sales during a selected period is the most critical "guesstimate:" Employ business experience from past financial statements. Get help from management and salespeople in developing this all-important number.

Then assume, for example, that a 10 percent increase in sales volume is a realistic and attainable goal. Multiply last year's net sales by 1.10 to get this year's estimate of total net sales. Next, break down this total, month by month, by looking at the historical monthly sales volume. From this you can determine what percentage of total annual sales fell on the average in each of those months over a minimum of the past three years. You may find that 75 percent of total annual sales volume was realized during the six months from July through December in each of those years and that the remaining 25 percent of sales was spread fairly evenly over the first six months of the year.

Next, estimate the cost of goods sold by analyzing operating data to determine on a monthly basis what percentage of sales has gone into cost of goods sold in the past. This percentage can then be adjusted for expected variations in costs, price trends, and efficiency of operations.

Operating expenses (sales, general and administrative expenses, depreciation, and interest), other expenses, other income, and taxes can then be estimated through detailed analysis and adjustment of what they were in the past and what you expect them to be in the future.

Comparison with Actual Monthly Performance

Putting together this information month by month for a year into the future will result in your business's Pro Forma Statement of Income. Use it to compare with the actual monthly results from operations. Preparation of the information is summarized below:

Revenue (Sales)

List the departments within the business. For example, if your business is appliance sales and service, the departments would include new appliances, used appliances, parts, in-shop service, on-site service.

In the "Estimate" columns, enter a reasonable projection of monthly sales for each department of the business. Include cash and on-account sales. In the "Actual" columns, enter the actual sales for the month as they become available.

Exclude from the Revenue section any revenue not strictly related to the business.

Cost of Sales

Cite costs by department of the business, as above.

In the "Estimate" columns, enter the cost of sales estimated for each month for each department. For product inventory, calculate the cost of the goods sold for each department (beginning inventory plus purchases and transportation costs during the month minus the inventory). Enter "Actual" costs each month as they accrue.

Gross Profit

Subtract the total cost of sales from the total revenue.

Expenses

Salary Expenses: Base pay plus overtime.

Payroll Expenses: Include paid vacations, sick leave, health insurance, unemployment insurance, Social Security taxes.

Outside Services: Include costs of subcontracts, overflow work farmed-out, special or one-time services.

Supplies: Services and items purchased for use in the business, not for resale.

Repairs and Maintenance: Regular maintenance and repair, including periodic large expenditures, such as painting or decorating.

Advertising: Include desired sales volume, classified directory listing expense, etc.

Car, Delivery and Travel: Include charges if personal car is used in the business. Include parking, tolls, mileage on buying trips, repairs, etc.

Accounting and Legal: Outside professional services.

Rent: List only real estate used in the business.

Telephone.

Utilities: Water, heat, light, etc.

Insurance: Fire or liability on property or products, worker's compensation.

Taxes: Inventory, sales, excise, real estate, others.

Interest.

Depreciation: Amortization of capital assets.

Other Expenses (specify each): Tools, leased equipment, etc.

Miscellaneous (unspecified): Small expenditures without separate accounts.

Net Profit

To find net profit, subtract total expenses from gross profit.

The Pro Forma Statement of Income, prepared on a monthly basis and culminating in an annual projection for the next business fiscal year, should be revised not less than quarterly. It must reflect the actual performance achieved in the immediately preceding three months to ensure its continuing usefulness as one of the two most valuable planning tools available to management.

Should the Pro Forma reveal that the business will likely not generate a profit from operations, plans must immediately be developed to identify what to do to at least break even - increase volume, decrease expenses, or put more owner capital in to pay some debts and reduce interest expenses.

Compare your budget periodically with real operations figures. With powerful records you can accomplish this. Then, where
discrepancies show up you can take corrective actions before it is too late. The right choices for the ideal corrective action
will depend upon your understanding of management techniques in buying, pricing, selling, selecting and training personnel, and
handling other management problems.

You probably are thinking you can employ a bookkeeper or a Accountant to deal with the record keeping for you. Yes, you can. But
remember two very important facts:

1. Provide the accountant with true input. If You Purchase something And do not record the sum in your organization checkbook, the
accountant can't enter it. If you sell something for money and don't record it, then the accountant will not understand about it.
The records the accountant prepares will probably be no greater than the info that you provide.

2. Utilize the documents to make decisions. If you moved to a physician And he told you you were ill and wanted certain medicine
to get well, you'd follow his guidance. Should you pay an accountant and he informs you your earnings are down this season, don't
hide your head in the sand and pretend that the problem will go away. It won't.

Business Management Roll in Personnel Selection. If your Small Business Will be large enough to require external help, an
important duty will be the choice and training of one or more employees. You may start out with relatives or business partners
that will assist you. But when the company grows - as you expect it will - that the time will come when you must select and train
employees.

Careful choice of employees is essential. To Pick the right Employees determine beforehand what you need each one to do.

Then look for applicants to fulfill these specific needs. In a small Business you will need flexible employees who can shift from
task to task as needed. Include this in the outline of those tasks you would like to fill. At precisely the same time, look ahead
and plan your hiring to assure an organization of individuals capable of accomplishing every essential role. In a retail store, a
salesperson may likewise do stock-keeping or accounting at the outset, but as the company grows you'll need sales people,
stock-keepers and bookkeepers.

When the project descriptions are composed, line up applicants from whom To make a selection. Do not be swayed by customers who
may suggest relatives. If the applicant doesn't succeed, you may lose a customer as well as a worker. Some sources of possible new
employees are:

1. Tips by friends, business acquaintances. 2. Employment agencies. 3. Placement bureaus of high schools, business schools, and
schools. 4. Trade and industrial associations. 5. Help-wanted ads in neighborhood newspapers.

Your next task is to screen want ad answers or program Forms sent by employment agencies. Some applicants will be removed sight
unseen. For each of the other people, the application form or letter will act as a foundation for the interview which should be
conducted in private. Put the applicant at ease by describing your business in general and the job in particular. Once you have
completed this, encourage the applicant to speak. Selecting the proper person is extremely important. Consult your questions
carefully to find out everything about the applicant that's pertinent to the job.

References are a must, and should be assessed before making a final decision. Check through an individual visit or a telephone
call directly to the applicant's immediate previous supervisor, whenever possible. Confirm that the advice given you is correct.
Consider, with conclusion, any negative comments you hear and what isn't said.

Checking references can bring to light important information Which may help save you money and future inconvenience.

Personnel Training. A well-selected employee is only a possible Asset to your business. Whether or not he or she becomes a real
advantage depends upon your training. Recall:

To allow adequate time for instruction. Not to expect too much from The trainee in too brief a time. To allow the worker learn by
doing under actual working conditions, together with close supervision. To follow up on your training.

Check the worker's operation after he or she was in work For a time. Re-explain important points and short cuts; bring the
employee current on new developments and encourage inquiries. Training is a continuous process which becomes excruciating
supervision.

Personnel Supervision. Supervision is the third essential of employees control. Fantastic oversight will lessen the cost of
operating your company by cutting back on the number of employee errors. When errors are corrected early, workers will find more
satisfaction from their tasks and perform better.

Motivating Employees. Small businesses occasionally face special Problems in motivating employees. In a large business, a good
employee can see An opportunity to progress into management. In a small business, You're the management. 1 thing you Might Wish to
Think about is to provide good workers a Small share of the proceeds, either via part-ownership or a profit-sharing plan. Someone
who has a"share of the activity" will be more Concerned about helping to make a success of the business.

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