Sales Forecasting

What is meant by a Sales Forecast?

It is the estimated company sales of a given product or service, under a proposed marketing plan in a given market for a specified time period.

Reasons for undertaking sales forecasts

Key decisions that are derived from a sales forecast include: - Employment levels required - Promotional mix - Investment in production capacity

Types of forecasting
Macro forecasting is concerned with forecasting markets in total. This is about determining the existing level of Market Demand and considering what will happen to market demand in the future.
Micro forecasting is concerned with detailed unit sales forecasts. This is about determining a products market share in a particular industry and considering what will happen to that market share in the future.

The selection of which type of forecasting to use depends on several factors:

(1) The degree of accuracy required if the decisions that are to be made on the basis of the sales forecast have high risks attached to them, then it stands to reason that the forecast should be prepared as accurately as possible. However, this involves more cost (2) The availability of data and information - in some markets there is a wealth of available sales information (e.g. clothing retail, food retailing, holidays); in others it is hard to find reliable, up-todate information.

 (3) The time horizon that the sales forecast is intended to cover. For example, are we forecasting next weeks sales, or are we trying to forecast what will happen to the overall size of the market in the next five years?

(4) The position of the products in its life cycle. For example, for products at the introductory stage of the product life cycle, less sales data and information may be available than for products at the maturity stage when time series can be a useful forecasting method.

The first stage in creating the sales forecast is to estimate Market Demand.
Definition: Market Demand for a product is the total volume that would be bought by a defined customer group, in a defined geographical area, in a defined time period, in a given marketing environment. This is sometimes referred to as the Market Demand Curve.

 For example, consider the UK Overseas Mass Market Package Holiday Industry. What is Market Demand? Using the definition above, market demand can be defined as: Defined Customer Group: Customers Who Buy an AirInclusive Package Holiday

Defined Geographical Area: Customers in the UK

Defined Time Period: A calendar year

Defined Marketing Environment: Strong consumer spending in the UK but overseas holidays affected by concerns over international terrorism

 Recent data for the UK Overseas Mass Market Package Holiday market suggests that market demand can be calculated as follows: Number of Customers in the UK: 17.5 million per calendar year Average Selling Price per Holiday: 450 Estimate of market demand: 7.9 billion (customers x average price)

Stage two in the forecast is to estimate Company Demand

Company demand is the companys share of market demand. This can be expressed as a formula: Company Demand = Market Demand v Companys Market Share For example, taking our package holiday market example; the company demand for First Choice Holidays in this market can be calculated as follows: First Choice Holidays Demand = 7.9 billion x 15% Market Share = 1.2 billion

 A companys share of market demand depends on how its products, services, prices, brands and so on are perceived relative to the competitors. All other things being equal, the companys market share will depend on the size and effectiveness of its marketing spending relative to competitors.

Step Three is then to develop the Sales Forecast

The Sales Forecast is the expected level of company sales based on a chosen marketing plan and an assumed marketing environment.

A sales target
A sales target (or goal) is set for the sales force as a way of defining and encouraging sales effort. Sales targets are often set some way higher than estimated sales to stretch the efforts of the sales force.

Sales Budget
A sales budget is a more conservative estimate of the expected volume of sales. It is primarily used for making current purchasing, production and cash-flow decisions. Sales budgets need to take into account the risks involved in sales forecasting. They are, therefore, generally set lower than the sales forecast.

How to develop a Sales Forecast

There are Three basic Methods of forecasting Sales for new start businesses Value Based - in other words what the business has to sell Market Based - in other words what the business could sell Resource Based - in other words what the business can produce to sell

Value Based Sales Forecast

This is calculated by dividing the estimated Annual Overheads by the Gross Profit Margin as a percentage - this will then tell you what the 'breakeven' sales figure is for your business. For most types of business there is a recognized Gross Profit Margin - for example Carpet Wholesalers make 20-23% GPM, Newsagents approximately 17% and Guest Houses approximately 47-75% - the key to business success is when your Gross profit covers your Overheads and leaves a little Net Profit for you.

For Example
You can calculate your Gross Profit Margin as a percentage using the following formula Selling Price - Direct Cost /Selling Price x 100 = GPM% If you are buying a product in at 21.30 and marking it up by 180% you will sell it at 21.30 + 180% = 59.64 Therefore your Gross Profit Margin is 59.64 - 21.30 / 59.64 x 100 = 64.28% If your Overheads are: 12,000 you divide this by 64.28% to give you a sales figure of 18,668 If your Overheads are: 18,000 you divide this by 64.28% to give you a sales figure of 28,003 This is what the business must sell to break even.

Market Based Sales Forecast

This is a Sales Forecast based on the results of the Market Research that you have carried out, For Example: Imagine you are opening a Restaurant / Diner and you have identified your customer profile. You now approach them and ask: How often do you eat out? On average how much do you spend on a meal?

Then you have worked out:

How many clients, who fit your customer profile, live in your area? How often will your product be bought? How much can you charge for your product? From this you can estimate the total number of sales per week / month / year for your business. This figure must be safely above the Value Based Sales forecast.

Resource Based Sales Forecast

This is based on the resource limitations of your business to provide the service or product. Examples of this type of limitation could be: If you are in manufacturing and your production capacity is limited by machinery and/or staff If you could produce a certain amount work in 5 days per week but you are only able to work 4 days at what you are paid to do If Cash flow is such that you are unable to stock sufficient for potential turnover If, as in the example above, you need to serve 50 meals per sitting but only have 20 places at table.

 In order to be financially viable your Resource Based Sales Forecast must, again, be greater than your Value Based Sales Forecast. If your Resource Based Forecast is lower than the market Based forecast it means that you will not be able to supply the demand. if they are the other way around it means that you will be able to easily keep up with demand. The weeks / months / annual Sales Forecast then becomes a realistic balance between all three and should be something achievable, with effort.

Factors that Influence Sales

Seasons, Holidays ,Special Events Competition,External Labour Births and Deaths, Fashions and Styles Population Changes, Consumer Earnings Political Events, Weather, Product Changes Style & Quality, Service Changes, Shortages Production Capacity, Promotional Effort Changes Sales Promotion, Sales Motivation Plans Price Changes, Shortages in Working Capital Distribution Methods Employed Credit Policy Changes, Labour Problems

Sales Forecasting Methods

Qualitative Quantitative

Qualitative
Execution Opinion Method Delphi Method Salesforce Composite Method Survey of Buyers Intentions Method Test Marketing Method

Quantitative
Moving Averages: Sales forecast for the next year =
Actual sales for Past3 or 6 yrs ________________________ Number of years (3 or 6 yrs)

Example (Figs are in Millions

Year 1997 1998 1999 2000 2001 2002 2003 2004 Actual sales 840 880 864 832 862 948 956 861 858 852 880 922 871 890 3 yrs 6 yrs

Quantitative
Exponential Smoothing Method: Forecaster can allow sales in certain periods to influence the sales forecast more than the sales in other periods by using a smoothing constant (L)in the equation: = (L) (actual sales this yr) + (1-L) (this yrs sales forecast) Where (L) can range from zero to something less than 1.

Example
For the year 2004:
0.2 x 956 + 0.8 x 880 = 895/- Million

Quantitative
Decomposition: In this companies previous periods of sales data are broken down into major components, such as trend, cycle, seasonal, and erratic events. These components are than recombined to forecast the sales for the future period.

Example
For 2004: Sales in 2003 was 956/ Up 3% in tend, (956 x 1.03)=985 Dn 5% coz of Erratic events (985 x 0.95)=936 Dn 10% due to Cyclic recession (936 x 0.90)=842

 Annual sales forecast is 842/ Quarterly will be 842/4=210, Seasonal variation up by 15% (210 x 1.15)=242 So the consistent salesforecast for other three quarters will be 842-242 /3=200 million.

Quantitative
Nave/Ratio: It is based on the assumption that what happened in the immediate past will continue to happen in the immediate future. Sales forecast for next year = Actual sales of this yr x actual sales of this yr / actual sales of last yr.

Example
For 2004: 956 x 956/948 = 964/- million.

Quantitative
Regression Analysis: It derives an equation based on relationship between the company sales(dependent variable x) and independent variables (y1, y2) which influences the sales. Y = a + bx

Quantitative
Econometric Analysis: In this many regression equations are built to forecast Industry sales, general economic conditions, or future events with the help of computer.