# How Sales Forecasting Works

Sales Forecasting Methods
With sales forecasting, companies can plan for future inventory on a monthly basis.

The math involved in sales forecasting is actually quite simple. The hard part is maintaining the detailed and accurate financial records needed to make those calculations. Here's some of the most useful information for calculating sales forecasts:

• Sales numbers for each product broken down by month of the year
• Number of sales that are returned or canceled
• External factors impacting sales, such as economic forecasts, price changes in raw materials, employee contract renegotiations, increased competition, among others

The simplest sales forecasting method is an annual sales forecast. Assuming that your sales are relatively stable -- no major changes in your competition, your employees or your customer base from year to year -- you only have to account for inflation. Here's the formula:

last ­year's annual sales + (last year's annual sales X rate of inflation) = next year's sales forecast [source: Virtual Adviser Interactive]

An example would be:

­\$100 in sales last year + (\$100 X .03 rate of inflation) = \$103 in sales for next year

For many businesses, sales fluctuate with the seasons. If that's the case, then you can break down your sales forecast month by month. The first thing you have to do is analyze the past few years of sales figures to calculate what percentage of the year's total sales are made each month.

In January, for example, you might make 5 percent of your total annual sales, but in June you make 20 percent. With that information, you can use current monthly sales numbers to predict the total sales for the year, no matter if it's the high season or the low season.

Let's say it's February and you already have the sales numbers for January. Since you know that January usually accounts for 5 percent of the year's total sales, you can make a forecast for the rest of the year. Here's the formula:

monthly sales / percentage of total sales expressed as a decimal = annual sales forecast

Let's says you made \$100 in sales in January. Here's the formula:

\$100 in January / .05 = \$2,000 for the year

Of course, it's rare that a company's sales remain so stable from year to year, even with seasonal variations. When making sales forecasts, there are several other factors that may need to be added to the calculation:

• Sales contracts that won't be renewed
• New sales contracts that are on the horizon
• Industry analysts' predictions for growth or shrinking in your market segment
• Economic analysts' predictions for the increased or decreased buying power of consumers in your market
• Political changes that could effect government contracts

One of the hardest things is forecasting for a new business that has no proven sales. At this stage, sales forecasts are important for attracting investors and qualifying for loans. The standard method for calculating a sales forecast with no existing sales is to base your predictions on the performance of similar businesses that sell similar products.

It's important to base your predictions on businesses that sell to the same customer demographic and have the same geographic location. For retail sales, you'll want to figure out the average monthly or annual sales volume per square foot of retail space. That way you can adjust for the relative size of your store.

Visit your competition, talk to sales staff and customers and draw up a profile of your target customer. Using census data, find out how many people in your area fit that customer profile and use that information when making your sales forecasts.

What tools can help you calculate sales forecasts? On the next page, we'll find out.