BUILD A REVENUE PLAN THAT’S MORE THAN A GUESS
Everything I learned about revenue planning in 15 years in corporate.
Imagine you are sitting across the table from several middle aged men. They are demanding to know why you are not on plan. And you have no answers for them. They ask questions and you look back blankly. The room gets warm and stuffy and you can feel frustration tears forming.
That was me when I started one of my roles in corporate, it was midyear and I was invited to a meeting with some senior people who wanted to understand why we were off plan. I remember frantically digging through all the planning spreadsheets and previous month’s commentary and finding nothing! I was up the proverbial creek without a paddle and a hole in my canoe.
I asked the salespeople why commissions were down and they insisted they were up. I asked traders why the monthly run rate was off and was told “seasonality” or the plan was wrong. Everything was impossible to verify or explain and apparently, ”We just didn’t make enough this quarter” wasn’t good enough.
Fast forward to planning for the following year and you can bet I had every detailed line item included, thought pattern documented and a plan to track the plan.
In the entrepreneurial space, we can get away with a little more as we don’t have a boss breathing down our neck or stakeholders to explain things to, but this planning exercise is the foundation of your business and the work upfront will help you spot your outliers and take action quickly.
Let’s start at the very beginning with everyone’s favorite vanity metric – revenue. I say vanity metric because social media is full of seven-figure this and six-figure that. But revenue is only a tiny slice of the picture and it doesn’t always correlate to cold hard cash in your hand.
Why do we care about it if it’s a vanity metric? Revenue is all about your clients and the value they are giving you in exchange for the value you give them. And it’s a big part of the profit calculations and profits are all about you and cold hard cash. So it’s pretty important that we know all about it.
Three ways to estimate your revenue for 2019
There are three main ways to come up with your revenue number:
- Historical or Run Rate
- The Scratch Method
Let’s break them down and look at which is best for you and your business.
The first is the most common – the guesstimate or the dream. This is where your revenue is your goal. For example, if you want to make six figures, hey presto, your plan becomes 100k. This is a top-down approach. In the corporate world, this would be the number your boss decided your department needed to make. You were stuck with figuring out how to make it happen. In your planning process, you are both the boss and the department.
The second method is historical or run rate. This means you base next year’s plan numbers on this year’s actual revenue. Often it is simply last year plus 10% or 20% and then it becomes a little like the top down number – a guesstimate at best. To do a thorough run rate plan, you need to assess the current run rate and expected growth. So you would look at the most recent results as an indicator of the base line and the trend as an indicator of growth. This gives you a good feel for where you would land up if all else remains the same with your current business. Then you add in the new business – be it new products or new clients – to get to a final plan number.
The third method starts from scratch. You determine how many of each product you believe you can sell and the price you sell it for. You are looking at your pipeline of business for 2019.
You may also get fancy here and add in the probability of sales to that pipeline. For example, if in the pipeline you have a hot lead that could spend $10k with you, so perhaps that’s an 80% chance. The revenue would be 10k * 80%. A lukewarm lead with potential to spend 10k is less likely, say 50%, and that revenue would be $5k. This is an advanced method for when you have reliable data about conversions.
This scratch method is a powerful exercise as it removes the reliance on the past performance. It forces you to think strategically about what is possible in the new year.
We all know business is expensive
When we look at costs, it’s important to understand the two different types.
- Direct Costs
- Fixed Costs
First up are the direct costs. What this means is these costs go up as your revenue goes up. It’s the extra items you need to pay for to make more revenue. In service businesses, it includes advertising, commissions and even affiliate payments. For product-based businesses, it would include things like your materials as well.
When you are estimating direct costs, you want to look at the ratio of that cost to your revenue. Apply this ratio to your new revenue plan number because they are directly related.
Next we have fixed costs. These are the fees and expenses that happen month in and month out whether you sell one package or one hundred. Think of things like rent, utilities, web site hosting, internet and software fees.
I would include salaries in fixed costs for both your employees and contractors. For the most part, you will not be able to link their work to a specific sale (for example, your social media manager or VA).
If a fee correlated to a sale – for example if as a web designer you outsource the logo design on a project – this could go in direct costs. In a perfect world, you would be tracking your time and allocating it to the matching revenue. But there is a reason big corporations have entire departments responsible for allocating costs. You need to draw a line somewhere or this becomes a number crunching exercise.
How deep should I go?
Your plan should be at a product level for your revenue and direct costs. Your overall plan would be the total of the product plans with fixed costs added in.
Group your products into evergreen and launch types as these will create different revenue and cost patterns.
Your plan should also be at a monthly level. To get it there, you’ll need to divide your evergreen revenue across 12 months. I would ignore any seasonal swings unless they are dramatic.
Divide your launch revenue between the launches and then add to the scheduled launch months.
Direct costs will also get a monthly split based on the ratio of cost to total. For example, total affiliate costs/total launch revenue * launch revenue in a month. This ensures you match the cost to the revenue it generates.
Commissions and advertising are in a ratio to total sales. If you know the split between ads for evergreen and ads for launches, you can split this out. But it will get complicated with ads spent on awareness posts or general marketing. I would keep it high level for now.
For fixed costs, spread them evenly across the year as most will be recurring. We’re matching it to revenue not payment (i.e., cash flow) yet.
But I don’t know…
Often the first big stumbling block in a planning exercise is the “I don’t know” factor. You don’t have a piece of data you need because the business is new, you’ve not been tracking it or it’s a brand new product. This is a complication but it’s not a reason to stop.
As you build your plan, you need to track any assumptions you’re making. For example, with direct costs, you may want to note that you based your number on the 2018 ratio of cost to revenue. If the cost number isn’t on plan, you can look at why the ratio is different this year . For example, did you increase your commissions rate because you got a new superstar salesperson? Did you launch with affiliates this year whereas last year, you didn’t?
You may not have know at the time of planning, but you can now assess whether it is reasonable based on the assumption you made. This removes the panic that costs are way over plan and any subsequent cost cutting.
This may feel like it is obvious right now but imagine looking back at your plan in 10 months. Would you remember all the things you are factoring in?
The easiest way to track these is to add a comment to the relevant cell in your spreadsheet.
As you move through the year, your assumption will be right or disproven. Both of these just give you better data for the following year.
I love it when a plan comes together…
By this stage, you have your plan by product and by month. You are now streaks ahead of the pack who are still dreading, and even thinking about this. I’m going to let you high-five yourself for a few minutes. But come right back. We’re not done yet.
The plan is the starting point and, if we file it away on our desktop and only look at it at year-end to see how we did, it’s pretty useless.
As you step away from the detail in your business and into a more strategic role, you need to consider how you will manage your plan. If you only find out where you are versus your target by looking at revenue, it’s too late to change course. This is as important when things are going well as when things are off-course. You want to invest in what’s working as soon as possible at the same time, avoiding what’s not working.
So we need predictive measures in place to tell you, at a glance, what to expect. In business lingo, we call these measures key performance indicators, or KPIs. I like to think of them as early warning signals.
It’s like the alarm on your car. When it goes off, you have a chance to chase away the thief or call the cops. If you don’t have an alarm, you’ll only find out there’s a problem when you see your empty parking spot. There’s not much chance of catching the thief then.
Key Performance Indicators
It’s much easier to understand KPIs in practice so I want to walk through an example with you. Let’s say your revenue goal for the year is $48K.
If you offer a service for $1K, to hit $48k you need 48 clients or 4 clients a month. So you could be tracking new clients during the month as a KPI. But we can go further back in the cycle.
If your average close rate on enrollment calls is 1 in 5, then you need 20 calls a month to close 4 clients. If in month one you don’t have 20 calls, it’s a warning sign and you need to make adjustments
But let’s step back further in the funnel. Let’s say for every person who opts in for your freebie, 1 in 10 books a call. That means to get 20 calls booked, you need 200 leads. That can be a KPI as well. If you only have 100 leads, you know you need to take action.
These three indicators will tell you if you need to investigate your funnel or if you are on track. If your leads are off, you start to look at ads and landing pages and the freebie. If the number of calls is off, it’s most likely in the follow-up sequence and invitation. If both are fine and clients are down, it’s a problem in the sales call or taking money parts.
Now you can check these KPIs and know if the business is on track well before month-end.
That covers revenue but you also need KPIs for the other parts of the plan. And the best place to start is to look at your assumptions. For example, if you assumed commissions of 5% in your plan, you should be tracking a commission KPI. You want to spot if it jumps to 10% or drops to 2% and so you can investigate.
I also suggest watching your gross margin (that’s your revenue less direct costs over your revenue). Compare it with your plan and a monthly trend as you move through the year. This is the controllable part of your profit. The fixed costs are coming no matter what so you can only manage the direct revenue and costs parts of the plan.
Happy New Year
It’s 2019. You’ve got your plan, you’ve been watching your KPIs and January 31 rolls around and you’re not on plan. First of all, do not panic – no business is ever exactly on plan so you’ve not done something terrible.
But you need to know how to use your plan through 2019 as the CEO that you are. There are a couple of different ways this can work.
Assume you were right
Assume your total revenue plan number was correct and adjust your monthly numbers. This is a popular method when you have a big month. Each following month goes down. But it’s a lot less popular when you have a dip later in the year and see the huge monthly numbers you need to catch up, so I don’t recommend this option.
Stick to your guns
Assume your month-by-month plan was correct. Your total then changes based on your real numbers for each month. If you needed $10k a month to make $120k in your plan, and in January you make $20k, your total for 2019 becomes $130k. So you keep aiming for the $10k plan you set each month regardless of when happens. This is a great approach if you’re new to planning and monitoring. It keeps you focused on the road ahead without too much distraction.
Know better, do better
This is the most complicated method so I’d avoid it unless you’re really comfortable with the numbers. This method requires revisiting the plan assumptions and adjusting them for the latest information you have.
For example, if the monthly revenue you use for evergreen was $5k and you’re now running at $7.5k, you may want to adjust that out for the rest of the year. This can get very tricky because you need to have a deep and detailed understanding of all the assumptions and drivers of your business. While this is ideal, it is not usually required for a small business without investors.
If you do opt for this method, I would suggest only restating once a quarter to be sure of the data rather than every month or blip.
A final word of warning
My rule of thumb is a plan cannot go down. If you have committed to $8k a month, stick to your guns. Adjusting it up based on better data allows you to push harder. But missing the mark should not allow you to ease off for the rest of the year.
The next year at that meeting, I was prepared. Numbers flew from my lips almost before the question was asked. The salespeople and traders were briefed on what needed action and we had plans to calm any concerns before they were voice. The work of planning upfront allowed us to stay focus on the money generators instead of the analysis.
Need some help?
I’ve covered a lot of technical information in this blog and I get that not everyone loves numbers and spreadsheet like I do so I’ve created a FREE revenue plan generator to do the work for you. You answer some questions and I’ll send you a revenue plan for 2019. Click HERE to get started.