Revenue Forecasting Methods 101

You’ve likely heard hundreds of times from mentors and business experts that you need to set a budget to keep your small business expenses on track. But how do you make decisions about your budget—like how many employees you can afford to hire or how much you can spend on advertising—if you don’t know how much revenue you’ll be bringing in in the coming months and years?

In order to prepare an accurate budget, you first need to develop a revenue forecast for your business. A forecast is an educated prediction for the upcoming year about how much money your company will likely bring in, so that you can estimate what you can afford to spend, and what your profit margin will be.

Why Revenue Forecasting Matters

Can you afford to hire a new employee or launch a new marketing campaign? If you were to take on a business loan in the coming months, how much of a monthly payment could you reasonably handle?

These questions, and thousands more that you likely ask yourself about your business every day, cannot be answered with any degree of accuracy without revenue forecasting.

And the more thoroughly researched and realistic your revenue forecasting is, the easier it will be to stay on budget throughout the year.

Revenue forecasting helps you budget business expenses early because you have a better idea of the total amount of money you have to budget each month. And if you start to get off track, either on your revenue predictions or on fixed expenses, you’re more likely to catch those deviations early if you have a forecast to compare with.

Forecasting will also help you time important moves—like bringing in a new hire, launching a new marketing campaign, or cutting costs during slow seasons—to match your predicted revenue throughout the year.

A detailed, well-researched forecast can even help convince lenders or investors to contribute funds to your business.

While no revenue forecast will ever be 100% accurate down to the penny, it will provide you with a very educated guess for your upcoming financial needs. This information will be crucial to your ability to make the best possible choices for your business.

Revenue Forecasting Tips and Tricks

There are two different ways to go about forecasting upcoming revenue for your business.

Judgment forecasting involves using your intuition and experience as the business owner to set a general pattern for your expectation of the year’s income and expenses. Quantitative forecasting is more scientific, using actual past revenue data from your own business or other businesses in your industry as a basis for tracking trends and predicting changes.

Experts recommend using a combination of judgment and quantitative forecasting methods to achieve the most accurate possible prediction of what the upcoming fiscal year will be.

If you’ve been in business for a little while, start with last year’s revenue statements as a basis for predicting what will happen in coming year. Then, consider any recent changes in personnel, products, pricing, competition, or other factors which could impact your future revenue.

As you calculate anticipated revenue, separate individual income sources, such as online vs. retail sales or sales from different major product lines, to get a clear picture of potential ups and downs from each revenue stream. This will help you isolate variables for a more accurate revenue forecast.

Remember that updating your forecast isn’t just an annual task to check off your to-do list. Rather, it is a living document that should be constantly reviewed and updated to reflect changes in your business. Ideally, keep your revenue forecast up-to-date by inputting changes once per month, or at minimum once per quarter.

Doing so will help you keep the current year’s forecast as accurate as possible, as well as setting you up for even more accurate revenue forecasting in future years.

Forecasting for Newer Businesses

Revenue forecasting for established businesses is comparatively straightforward, but what if you have a newer business with no revenue history to inform your predictions?

Without the benefit of solid quantitative data, you’ll need to be very smart (and thorough!) in utilizing judgment forecasting methods to develop your predictions.

As Covestor CEO Asheesh Advani explains, “forecasting business revenue and expenses during the startup stage is really more art than science.”

As a starting point, Advani recommends focusing more on your upcoming expenses than on upcoming cash flow. What is your overhead (or fixed costs)? Which costs are likely to fluctuate?

Marketing, legal, and licensing expenses tend to spiral out of control during the early stages of a startup, so consider doubling or even tripling your initial estimates.

Advani encourages startups to create two versions of the initial revenue forecast—an optimistic version, and a more conservative/realistic version.

“Embrace your dreams and build at least one set of projections with aggressive assumptions,” Advani says. “You won’t become big unless you think big! By building two sets of revenue projections, you’ll force yourself to make conservative assumptions and then relax some of these assumptions for your aggressive case.”

Working With a Mentor

Startup entrepreneurs often benefit from working with a mentor or a seasoned business owner within their same industry to help guide the initial revenue forecasting process. A little bit of mentoring can go a long way towards preparing you and your business for the road ahead.

With their expertise, experience, and data sets from their own company’s past revenue, a mentor can offer you great insight into what to expect from your first year’s sales numbers. That data will be invaluable to creating a revenue forecast that you would be impossible to predict on your own.

Find a business mentor through contacts you already have, such as your suppliers and members of trade associations you belong to, through your local chamber of commerce, or through a government-sponsored small business mentoring program such as Service Corps of Retired Executives (SCORE), or your local Small Business Development Center.

For any company, revenue forecasting is essential in preparing for the ups and downs of the year to come. But for newer businesses, without many years of experience to draw on, the forecasting process can present special challenges.

To get the most out of your revenue forecasting, use what data you do have, be thorough and realistic about factors that might affect your income and cash flow, and don’t be afraid to ask for help from someone who’s been in your shoes. With an objective vision and substantial research, you’ll be able to create a great revenue forecast that can help to guide your business decisions throughout the year.