October 13, 2021
3 Questions to Ask Before Modeling & Forecasting Revenue
The foundation of every financial model is how revenue is projected. The majority of direct or indirect expenses in almost every industry are predicted through the forecasting model, which creates a great deal of reliance on this process being successful. Informed revenue modeling helps drive business decisions and provides forward looking metrics and financial outlooks. This is the case for companies of all sizes; what changes is how the assumptions are formulated and how granular the model outputs are given individual business requirements. To set your business up for success, consider the following three questions before building your revenue model.
How Do Sales Flow to Revenue?
If your business is established with more than 12 months of operational and financial data, the assumptions to drive data forward must be compared against your historic data. This comparison should happen at the beginning of the forecast process and address the question, “What business initiatives will drive a change in KPIs that need to be incorporated into the assumptions to drive revenue?” This may be a detailed and extensive process depending on the scale of the model.
If your business is a startup company with little or no data, the assumptions must be informed by two processes. First, identify what comparable industry data can be used as a benchmark. Then, most importantly, make sure the Financial Planning & Analysis (FP&A) team is partnering with the leadership team to understand the business model and go-to-market strategy, and that both teams are aligned on the end goal.
How Does Sales Drive Revenue?
In both situations above, the key is a thorough understanding of how sales are achieved operationally and translating that to revenue. This is something that few software platforms do well across all industries and something that is difficult to achieve in any financial model.
For example, when modeling a sales funnel for a startup company, the FP&A group should partner not only with the operational leadership team, but also with the sales team to understand the strategy and main components of how sales are achieved. This process is the most significant for getting correct logic and assumptions into place for the operational side of the financial model, which largely drives the financial assumptions.
To determine how sales drives revenue, ask the following questions:
- Where do sales leads come from?
- How long does it take for leads to convert to opportunities?
- What is the value of a closed opportunity?
- What is the lifespan of that customer?
From here, you can begin to attach assumptions to the output from both a revenue and cost perspective.
Is the FP&A Team Guiding the Company’s Forecasting Strategy?
An experienced FP&A team can tackle these challenges and provide value in two key ways:
- Keeping communication clear on what information is needed from the business and what is needed as an output from the model.
- Building out a timeline for when steps of the project will be achieved and a cadence to have recurring meetings or outputs from FP&A that the leadership team can rely on.
Setting up a revenue modeling system is not an easy undertaking for any business. Not sure where to start? Bridgepoint Consulting can help. Our consultants have years of experience across industries and company maturity to deliver confidence and professionalism in FP&A to your organization and help set you up for long-term success.
4 Ways FP&A Can Ensure Better Organizational Alignment
Overcoming 5 Common FP&A Reporting Challenges with Institutional Investments
Are Traditional Budgeting Models Still Relevant?