Most businesses think they have a good sense of whether sales are up or down, but how are they gauging accuracy? With shifting budgets and different departments needing more or less from the company every month, having a precise account of every expense and how it relates to future sales is a must.
That’s where the percentage of sales method comes in handy. The percentage of sales method allows businesses to make accurate assessments of their previous sales so they can comfortably project into the future.
In this article, we’ll discuss what the method is, how to use it, show an example, and illustrate some of its benefits.
What is the percentage of sales method?
The percentage of sales method is a forecasting tool that makes financial predictions based on previous and current sales data. This data encompasses sales and all business expenses related to sales, including inventory and cost of goods.
The company then uses the results of this method to make adjustments for the future based on their financial outlook.
While these numbers are only useful in the short term and the process needs repeating, the percentage of sales model allows businesses to make educated decisions about the direction their companies are headed.
The benefits of percentage forecasting
Business forecasting may not perfectly predict your company’s financial future, but it can give you a strong sense of where your company is headed and any changes you may need to make. Here are just some of the benefits of business forecasting:
- Developing structured plans: With an idea of how much revenue you stand to gain or lose in the coming period, you can create a detailed plan for how to increase or achieve that revenue.
- Creating accurate budgets: Knowing the exact accounts your money is leaving from and coming into allows you to create a more accurate budget. Having a budget at the beginning of the month is a great start, but knowing whether or not you have stuck to that budget by the end of the month is far more important.
- Analyzing expenses and revenue: When you know your revenue is exceeding your expenses, you can start planning for business improvements, employee raises, and other additional expenses that might benefit the company and further increase revenue down the line.
- Evaluating market trends: Insight into how customers are paying for products and what products they are buying allows you to reconfigure your sales strategy and make sure you are putting your best foot forward.
Percentage of sales method formula
There are five basic steps to the percentage of sales method formula. We’ll go through each step and then walk through an example to see the formula in action.
How to calculate step by step
1. Locate and determine your current numbers: Before doing any calculating, you need to have your current finances ready and available. These numbers will serve as a baseline for future budget comparisons and will give you a sense of what your business is looking like financially.
2. Choose what you want to forecast: Not every business expense or account is influenced by sales. Of course, if you are seeing high expenses in areas that are not backed up by revenue return, those are worth looking into through a budget analysis, they’re just not applicable to this formula.
Some accounts you may want to forecast include:
- Accounts receivable
- Accounts payable
- Fixed assets
- Cost of goods sold
- Net income
3. Write out the balances of each account and their percentage in relation to revenue: Depending on the size of your business, this can take some time. The hope in this step is that you will end up with positive percentages in every account. If not, it means you have a negative net income. We’ll go into this further in the walk-through example.
4. Calculate the forecasted sales: Your company should have an ideal increase forecast based on current sales and realistic KPI goals. Let’s say you expect sales to increase 20 percent. Using the following formula, you can determine the approximate value of your forecasted sales:
If your current sales are at $75,000 and you expect a 20-percent increase, your formula would look like this:
75,000 (1+20/100) = 75,000 (1.2) = $90,000
If your sales increase by 20 percent, you can expect your total sales value in the upcoming quarter or year to be $90,000.
5. Apply your new sales value to the percentages calculated in step 3: By taking the percentage of revenue relevant to each account and applying it to your forecast number, you’ll be able to see approximately how much money will be gained or lost in each account.
Let’s walk through the entire process in action.