Why do you need projections?

by Adina Luca, December 10, 2015

You are the owner of a small business with a great team and things are going well. You have a fairly good idea of what lies ahead. Why do you possibly need financial projections? A projection is something that only the bank wants to see or big corporates need in order to show the return to their shareholders, right?

Spending money is very easy. If you don’t have a realistic projection, only a target figure in your head, you will start spending accordingly. Anything goes. New website? Yes, we need that. New laptops? Obviously. Prospecting trip to Dubai that is unclear but sounds very promising? Of course.

Waiting until end of year to measure your results against your projections is always too late. Especially when it comes to expenses. Monitoring monthly and acting quarterly are more likely to help you avoid the end of year disappointment.

Doing your financial projections are like running when fit. You are fit when you finish the run for as long as you planned for and you feel that you can go longer. The run has not wiped you out. You can only get that feeling after lots of miles, after you have learnt your own pacing, how far you can push yourself and when to slow down, where the terrain is helpful or difficult, and which shoes are best for you.

Years of practicing putting projections together and seeing them come to completion against actuals will do just that: get you fit so you can finish the next fiscal year with a great feeling. It will build a rhythm in your running and you will feel you are able to plan well in advance which route to take next.

But, you cannot possibly project anything because you don’t know for sure who will buy. That is worrying. You believe that your business will continue to make money, but you think you cannot know in advance where from? Does that mean you don’t know what your clients and your market will do next year?

But, projections are never accurate. No, they are not. Your biggest learning will come from comparing what you thought was going to happen with what really happened. Why miss that lesson?

Hey, projections have got you into trouble before. Yes, it can happen if you use projections as sales targets and a method to challenge yourself on how big you can grow. Then you start spending as if you have already grown. That is a sure route to go into the red.

Here are some methods you can use.

Past projections analysis – a lot can be learnt from how you are used to project and what actually happens. How you see your business is most obvious from how you do your projections. Are you constantly under what you project? Do you tend to push things up and set the bar too high – then despair at the end of the year that you have not reached it, again? Or do you tend to project the same amount over and over again?

Cost averages – average your monthly expenses and then round them up. For example if your phone bill was an average of £265 per month last year, assume £300 for this current year. Same for all the other expenses, except the fixed ones under a contract such as rent and car leases. This is a method to always have room in your costs for the unexpected.

Revenue averages – average the last three years of the value that the client spent with you and project less than that. This also applies for the revenue that you are 100% sure of. For example, if a certain client has given you an average of £20,000 a year for the last 4 years, project £15,000. This method ensures you stay profitable as you will set your expenses for lower revenue.

The biggest pitfall of financial projections is confusing them with sales targets. Project like the market is going down and target sales like the sky is the limit.

To anchor your projections in reality, always start with Clients. Whatever you sell, however you package that widget, someone needs to pay for it. The first step in doing projections is identifying the specific companies or individuals who have expressed a definite need for your widget. Are there clients – be them corporate or individuals – out there ready to pay for what you offer? Who are they? Can you identify them specifically: name, location, size, etc.?

Do not start with the plan to sell X product so many times. You need to be able to answer the question ‘to whom.’ Think twice if your answer is: ‘we’ll get a couple of new sales people who will run around pushing our widget out there.’ New sales people going after an unknown market smells like disaster.

There are exceptions. Some of our clients receive incoming calls from new clients through the year and they could not possibly know their identity when they project. If this is your case, establish a sensible formula of what is likely to come from incoming calls. You can average the last couple of years’ incoming new clients and put them down in the projections in a controlled fashion. And do not rely on them for your growth, as that is far too risky.

If you cannot name your clients, you don’t have a projection. Only a big desire.