How to use reverse forecasting to check the viability of your business
Find out how a technique called ‘reverse forecasting’ can help you complete your business plan AND test the viability of your business.
When starting a new business, it’s always wise to fill in a business plan. However, there is one tricky section that frustrates even the most experienced entrepreneur: financial forecasting.
How can you possibly see in the future to even take a stab at how much money your business will earn, if you haven’t even put your concept to the test yet?
The good news is that there is a really easy way to flip this section around, and have a confident guess at what kind of money your business needs to make – and even test the viability of your business while you’re at it – by using something I call reverse forecasting. Here’s how it works – and why.
What is ‘reverse forecasting’?
Reverse forecasting is an approach I developed when working with businesses I mentor. I often encourage them to write business plans, as they are a good way to stress-test a business idea and can help you to develop a plan of action for moving forward with a business idea.
However, without exception everyone gets stuck on what to put for the financial forecasting section – especially if they have no historic sales records to base future predictions on. It is literally expecting you to be able to see into the future!
Reverse forecasting takes that blind guesswork away by instead asking you what you need to earn from your business, then checking the viability of that, and coming up with a plan to achieve it.
While it’s an approach I designed and named myself, I have since discovered it shares many similarities with a planning approach called backcasting.
How to do reverse forecasting
Here’s how to use reverse forecasting on your business plan:
- Start our by working out how much profit your business needs to make a year
- From that identify how much your business needs to turn over a month (remember to factor in expenses)
- Then work out how many sales or customers you need to make that profit
Let’s elaborate on that. You start out by working out how much money you need from your business each year, then work out your desired monthly income – and how much your business needs to make to pay that.
It’s important here to differentiate between turnover and profit. In order to pay yourself a particular income a month, your business needs to bring in that amount PLUS expenses. These will be everything from running costs, such as WiFi and tax, to expenses incurred in creating and delivering your offering, for example materials and travel.
Once you know how much you need to earn a month, and factored in your business expenses, you can work out how much sales or customers you need. Here’s an example:
- You want to earn £24,000 a year from your business
- This means you need to clear £2,000 a month profit
- Your business expenses are £1,000 a month
- So your business needs to turn over £3,000 a month
- You sell services for £30 each, so need 100 customers a month
This approach means you know exactly how many customers or sales you need a month. You can then assess whether it is realistic. Can you really find 100 customers every month? Do you have the capacity to cope with that number?
If the answer is no, then you know you need to go back to the drawing board. You need to either re-think your business model or change your pricing.
Why does reverse forecasting work?
Reverse forecasting takes the guess work out of estimating how much your business will earn. It is also a great way to put your business idea to the test, and get you thinking realistically about how much money your business needs to pay you – and whether or not it can do that.
It can help you revise your idea, or even assess whether your business will ever be viable. As painful as that is to realise, it’s much better to know before you have invested too much time, money and hope trying to make it work.
You can use reverse forecasting even if you aren’t writing a business plan
You don’t need to be writing a business plan to benefit from reverse forecasting – it’s a great test to do at any time. If you aren’t yet earning what you need to from your business, use reverse forecasting to see how far off you are, and what you might need to change to get there.
I often take people I mentor through similar exercises to help them evaluate what needs to change in their business to get the results they want. I find it can help give business owners and freelancers the confidence to make difficult changes, like increasing their pricing, once they see in black and white how they are not earning what they need – and are unlikely to unless they take action.
So how can reverse forecasting help you? If you’re writing a business plan, use this approach for your financial forecasting section. And even if you’re not writing a business plan, why not use the technique to see what might need to change in your business?
Author: Hannah Martin is an award-winning advertising copywriter and founder of Talented Ladies Club. She mentors entrepreneurs and freelancers, helping them to earn the money they deserve, while doing what they love.
