Forecasting Series, Part 1:

You Can’t Plan When You Can’t See

Drew Larson

Thought Leader at o9 Solutions, Inc.
Helping the world's leading companies increase the speed and quality of their decision making by 100x awakening the cognitive enterprise.
Drew Larson

The Hidden Drivers of Sales, Product, and Supply Chain Forecasts

There is a quote commonly attributed to Winston Churchill that we find fitting for a foray into forecasting: “Plans are of little importance, but planning is essential.” And the lifeblood of planning is forecasting; you cannot reliably plan unless you have insight into future market conditions. We propose three key strategies for improving the quality of planning by improving the quality of forecasting.

1) Understand and Monitor Revenue Drivers

Many companies put an emphasis on the final forecast number, and while this number is important, it is not the main purpose of forecasting. Rather, the forecasting process forces your company to evaluate the drivers behind the forecasts themselves. Aligning all of the teams on those underlying drivers is the real value-add. When managers and planners are too focused on reaching a final forecast number, they overlook the drivers that actually affect those numbers, and those revenue drivers are just as important to the planning process as the final forecast number. When everyone in the company is asking the same questions and considering the same market factors, they can start working towards the same goals.

Revenue drivers are divided into size drivers and share drivers:

  • Size drivers are the factors influencing market size, such as demographic growth and income growth. These drivers will depend on the category of products your company is selling. How many items from that product category will be sold in the U.S. market? How about in a particular state and city? Your company should understand and monitor the drivers behind those answers in order to detect changes in the market size.
  • Share drivers determine your company’s share of the total market. These share drivers include your company’s pricing, distribution, and brand awareness in comparison to competitors. If your company offers more product variety, you get more share. If you place products in more retail outlets, you get more share. Better pricing, more share. Knowing the drivers that influence your company’s share of the market helps you decide where to invest resources to increase that share.

Size drivers and share drivers together dictate sales, and forecasting is about understanding those drivers. It is crucial that managers and planners monitor fluctuations in revenue drivers so that they can adjust plans based on changes in the target market segments. By understanding how size and share drivers affect revenue, your company can really know what’s going wrong (and right) in the business and can develop tangible steps for improving the operational plan.

2) Integrate Different Forecasts in the Planning Process

Oftentimes, companies assume “one number” forecasting is about reaching a consensus around a single number. However, the term is somewhat of a misnomer; one number forecasting is more about reconciling and aligning forecasts with different purposes to ensure they are not at cross purposes.

Finance, sales, and supply chain teams develop forecasts based on their particular needs and objectives. Finance teams need an overall profit and loss forecast that can then take corrective action to close gaps as needed. Sales teams create forecasts that help them meet targets and allocate sales and marketing resources. Supply chain forecasts, in contrast, tend to be concerned with product availability: they have to factor in a product’s shelf life or seasonality while balancing inventory and manufacturing plans to meet demand at the lowest total cost for each item.

Because these forecasts are designed to drive different decisions, they are at different levels of granularity. For example, a finance forecast does not need to be at the location level of detail needed in a supply chain forecast. A model that makes the finance process too detailed will distort the insights of a finance forecast. Forcing all forecasts into a “one number” output compromises accuracy in exchange for a useless form of consistency. It is therefore important to adopt a system that integrates these different perspectives and decisions into a shared, company-wide plan.

Move away from the idea of a single number and instead focus on aligning forecasts with different functions and different levels of granularity, ensuring the flexibility to accommodate market changes.

3) Share Assumptions to Reduce Second-Guessing

When teams produce and share their own forecasts, they often do not share the assumptions that underlie their forecasts. This leads to second-guessing of forecasting numbers across hierarchies and functions (e.g., managers second guess forecasts from lower levels, and supply chain second guesses forecasts from sales teams). [see: S&OP article]

Here’s a common scenario: A sales team obtains market intelligence that indicates a dramatic increase in demand for the upcoming weeks. The team shares these changes with their supply chain counterparts, but they remove the underlying assumptions which are driving the changes. Because the supply chain team does not have visibility into these assumptions—and because they shoulder the financial burden of expediting materials!—they second guess the sales team’s numbers. The supply chain team instead relies on the tried-and-true method of using historical data to predict what they will actually have to deliver. While this may mitigate some of the risk of an overly optimistic sales forecast, it means missing out on new opportunities.

If the supply chain team had visibility into the assumptions driving the changes in the sales forecast, they could make more informed decisions on the allocation of resources to meet changing market demands. The objective in forecasting is to reach a unified plan based on the insight each team provides; this is easier to achieve when the teams can trust the numbers they are given.

Better Forecasting for Better Planning

These three strategies—monitoring revenue drivers, integrating forecasts with different purposes, and sharing assumptions behind forecasts—can help your company get the most value out of forecasting, and better forecasting means better planning overall.

Want to bring your teams together for greater forecast accuracy? Talk to one of our experts here about o9’s mPower platform. Our next-generation planning and collaborative platform provides built-in capabilities to pinpoint and monitor revenue drivers, reconcile different forecasts, and share assumptions underlying your company’s forecasts.

Subscribe for part two in this series, which talks about improving risk-aware planning using analytics.

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