Only The First Two Digits Matter (November 2009)

I spend a fair amount of my time developing financial forecasts. As we approach year end, everyone is thinking about 2010. What are expected revenues? What changes will we make in our cost structure (either by necessity or choice)? What will the bottom line look like compared to 2009?

This effort is (or should be) one of collaboration. Generally, the finance person responsible for actually producing the forecast should be receiving input from sales, marketing, service delivery, administration, production, research & development, the executive team and perhaps even the Board of Directors with respect to their thoughts about the upcoming year (or perhaps multiple years). Furthermore, it is best that this input be when “everyone is sitting around the table” as opposed to being sent only to the finance person. This allows everyone the opportunity to challenge each other’s assumption and make sure that they are all on the same page. It’s important that if the plan calls for a ten percent increase in revenue versus the prior year, for example, that everyone is planning their resources accordingly.

As you move through your planning process (either as the person responsible for pulling together the forecast or a participant), it’s important to step back, think strategically and not allow oneself to get mired in the details. Think about what is happening within your company, the competitive environment in your industry, and economic factors generally.

Often, I like to say only the first two digits matter! Why? Because we are dealing with a forecast. By its very definition, it is an estimate and therefore wrong at least to some extent! The question isn’t whether the forecast is wrong, rather it is by how much? I have seen people spend an inordinate amount of time trying to be very precise in their forecast, but miss the big picture. Too often, I’ll see people develop extremely complex formulas to forecast a line item without thinking about the big picture. To develop a forecast without the benefit of the context of historical trends, volume, and “the bigger picture” in mind is a recipe for disaster.

While I don’t mean to suggest one should not “sweat the details”, it’s also important to keep in mind that time is a finite resource and it’s important to focus your efforts where they will have the most value.

If you are forecasting an expense line item of some $50,000, then the digits after the comma are neither material nor predictable. The same is true if you are forecasting a profit picture of $10,500,000 dollars. In this case, even though the potential value of whether that “5” ends up being a 1 or a 9 is significant, one’s ability to forecast it is relatively small. For new businesses, even getting the first digit of the revenue forecast right can be a challenge.

If you are paying attention to how your forecast relates to prior periods, percent to revenue, month to month trends, industry norms and external factors, then you’ll probably end up with a forecast that is reasonable. With these thoughts in mind, I wish you the best of luck in developing your 2010 plans.

If your business could benefit from fractional CFO services, I would welcome the chance to speak with you. Please give me a call at (314) 863-6637 or send an email to

your cash is flowing. know where.®

Ken Homza
Copyright @ 2009 Homza Consulting, Inc.