If you are looking to start or finance a business, financial projections are a must. The problem is that most entrepreneurs are experts in something other than financial modeling. The thought of a 25 tab Excel template makes you break into a cold sweat. Although financial projections may sound intimidating, the basics can really be broken down into 3 steps:
1. Gather Data – The first step is to gather as much data as possible. For example, you need to make sure that you know exactly how long it takes you to produce your product or service. You might need to actually produce a unit or perform the service a few times and time yourself. Why? Well if you think it is going to take you 15 minutes to produce your product and you use that to build your financial projections, your business could be ruined when it actually takes 20 minutes to produce the product. 5 minutes might not sound like much, but when you start producing hundreds or thousands of units, those 5 minutes per unit will really start to add up. You really need to make sure you get your cost of goods sold right in your projections.
2. Make Sound Assumptions – Your projections should be based on assumptions. You can’t just pull numbers out of thin air. So as you build your projections, pretend you are back in school and cite your sources. If you are assuming that you can sell your product for $50 per unit, you could validate that by citing your competitors pricing. Or if you assume you will be able to rent an office for $6 per square foot, you should validate that by checking in with a local realtor and cite that source in your projections.
3. Build from the Bottom Up – One common mistake when creating sales projections is to go from the top down. For example, you might assume that you can just go out and get 1% of the market, and just build your sales projections based on that. Instead you should build from the bottom up. For example you know that you can make 25 sales calls per day, 5 will result in a meeting, and 2 will turn into customers that will continue to buy your service for an average of 24 months. This sort of bottom up projection is much more powerful and more believable when presenting to lenders and investors.
If you follow these 3 general steps and use a common Excel template or ProjectionHub, our financial projection software, you will be well on your way to creating a realistic set of financial projections. If you have any questions at all do not hesitate to reach out to me at firstname.lastname@example.org
About the Author: Adam Hoeksema is the Co-Founder of ProjectionHub which is a web application that helps entrepreneurs create financial projections without the need to have a PhD in spreadsheet modeling.