Why a Baseline Sales Forecast is more important than ever

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New technologies have made consumers both better informed and harder to engage. While traditional “one-to-many” mass marketing tools like TV and newspapers remain important, businesses now feel that their reach and influence have declined significantly. This leaves companies with a different and more difficult problem. In a world saturated with media platforms and marketing messages, where attention spans are short and consumers increasingly cynical, what’s the best way to engage consumers and create preference?

Once upon a time life was simple. Choices within the marketing mix were relatively few in number and analysing the past performance and planning the future spend and mix was comparatively easy.

But today the choices facing the marketing executive are numerous and complex. For example, advertising is no longer just a decision between the four major media platforms but now has to take into account the rise of the internet and the explosion of more choice and variety within the old traditional broadcast media platforms.

Now the challenge is managing a mix within the marketing mix – which element of the media mix delivers the best ROI? More importantly, what is the impact of the various elements of the media mix working together?

The old analytics – pencil, graph paper (and then the spreadsheet) don’t provide the right kind of analytics to answer these questions. The reason is that we find it difficult to determine relationships between cause and effect for more than two dimensions.

Just look at the chart above. It shows the variation between just two elements of the marketing mix – price and distribution – and their possible effect on sales. You have admit it is impossible to determine the relationship between these two factors and sales. And it is likely that other factors, not shown in the chart, have had greater impact on sales performance.

How can one tell?

The only safe way of determining the real drivers of sales, and the contribution of each one to sales performance is to undertake Econometric Modelling and determine Baseline Sales – what will be the outcome from maintaining the same marketing mix? Then the results of the modelling, which calculate the relationship between each part of the marketing mix and sales response, can predict how Baseline Sales will change in response to different marketing mix scenarios.

There are four main reasons why this type of data modelling will give you the answers you are looking for:

1. Because the model “thinks” in more than two dimensions
2. Because it identifies relationships that are ‘causal’ rather than just ‘coincidental’
3. Because it can derive the sales effect of each activity, singly and in combination
4. Because it can evaluate and model the impact of changes to the marketing mix and other assumptions on future sales and share performance

Econometric Modelling is at the heart of P&G’s Business Sufficiency program which enables them to look at the outcomes of alternative marketing strategies before they take the decision on which one to pursue.

Now, what’s your excuse for not doing the same?

Baseline Sales Forecast

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Baseline Sales Forecast

For most companies, their primary objective is to deliver more sales and profit than the previous year. However they often do this without understanding what the key drivers of performance are and hence the consequences of the decisions they take to deliver growth.

The budgeting and forecasting cycle is consistent across industries and countries. Forecasts are updated on a quarterly basis, budgets for the following year and a corporate plan that looks at a longer time horizon.

Three core issues can be found in most budget processes.

Functional Silo’s
The most common issue is the functional silo – ie that your view is determined by the function you work in. For example, in a retail organisation if you are a store manager you believe you know your store, the local environment, what products will sell better than anybody else – and hence are best placed to judge the sales that are achievable next year.

However, if you are in marketing, you believe that if stores are left to their own devices, they simply repeat what has been done in previous years – it is up to marketing to understand what the customer needs, get the board engaged with new developments and initiatives and then to publicise them – through advertising, promotions, sponsorship etc. It is these activities that drive incremental sales and hence marketing should be accountable for predicting these sales.

Different functional silos within the organisation produce different forecasts from their different viewpoints, which leads to tiresome negotiation and compromise.

What About the Customer?
Because companies are organised in functions the most common approach is to predict performance and hence budget based on these functions. But the only view that is relevant is the customer. This means identifying and then predicting performance based on the things that impact the attitudes and motivations that shape the customer motivation to spend.

The Concept of Relativity
If for most companies the primary objective is to deliver more sales and profit than the previous year, then the key to this is that it is growth relative to the previous year.

You could simply take sales in the previous year and apply an uplift – and hey presto you have a budget. This can work – the risk is that if you haven’t identified the events/activities that delivered the previous years performance then you cannot have confidence that your budget for next year is achievable.

The key thing is that performance is relative and it is the events and activities that drive demand – simply extrapolating sales into the future is too simplistic. It can work when the market and growth is buoyant – but when there is low growth and customers/businesses are tightening their purse strings then it is a high risk approach.

What is required is an approach that is structured around the relative change in the activities/events that shape customer demand and hence sales.

The role of the baseline is to define the “as is” – by measuring the impact of the events, circumstances and actions (the factors) that have contributed to historic sales performance. This baseline creates a start point understood by all – from this it is then possible to overlay new or extended activities that will be prioritised by companies to deliver the required budgeted sales growth.

The first step in establishing this baseline is identification of the factors that drive sales and there are two kinds of factors.

Factors shaping demand that the company has no direct influence over but influence customer behaviour: for example press coverage about an age of austerity is likely to make people more cautious of what they spend – even if they haven’t had a reduction in income.

Then there are factors that are under a company’s control: the level of press advertising, the product mix, the prices set, stock levels, customer service etc, are all things that a company has direct control over.

For each factor that is either out of or under control, over time there will be variability in outcomes. Prices will change, competitors will do different things, the levels of disposable income and unemployment will change. As a result of this variability it is possible to isolate and hence measure the impact these factors have – and thus be able to quantify the contribution of each to sales.

How do you identify the factors? There is no magic wand but it is always the case that the business knows what the factors are – it is simply that they haven’t thought about the business in this way. It needs an iterative approach to draw this knowledge out and to find the right metric that captures the factor.

At this point the analysis will deliver a robust explanation of the “as is” in terms of the factors that have had the most significant influence in delivering the historic sales performance – expressed in terms of a quantifiable relationship between the factor and sales. This is in the historic baseline.

With the factors and measures defined, one can then establish a forecast baseline. This baseline will reflect predictions of the key variables going forward. For example if inflation is shown to have an impact on sales then the inflation rate forecasts would be built into the projected baseline – reflecting the impact of the projected relative rate of change in inflation on sales.

Changes can be made to overlay onto the baseline to reflect the activities that the company will be doing differently in the future. The addition of these overlays to the baseline is obviously subject to the challenge of functional silo’s – however it will be based on a rational and transparent start point as the impact of price promotions, new store opening hours, new press advertising etc will have been quantified in terms of their historic impact. Thus the decision of where to prioritise investment is more likely to be objective than subjective.

A combination of circumstances means that a baseline approach is more relevant than it has ever been.

A no growth business environment means it is critical that investment decisions are driven by fact based knowledge and understanding of what is driving performance.
There is now the capability to deliver a baseline that is fit for purpose and is integral to the decision making process.
An approach that can be delivered at a cost that makes it accessible to most companies and not the few blue chips that can afford the big ticket consultancies.

Those companies that both embrace and leverage the insight and knowledge that can be obtained from the rich data at a businesses finger tips are the companies that will continue to thrive in a challenging environment and not fall by the way side in the future.

Which Scenario for 2010?

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Robert Schiller, Professor of Economics at Yale University, and allegedly one of the world’s most influential economists, predicts that the UK faces the prospect of two recessions in quick succession.

Such a double-dip slowdown is called a “W-shaped” recession by economists, where recovery is so fragile that the country will be plunged into another slowdown just as soon as it starts to emerge from the current recession.

Chancellor Alistair Darling dismisses doubts that his Budget forecasts are too optimistic and predicts that the recession will be over by Christmas. However, most UK economists believe that the UK will stagnate until the end of 2010 and that unemployment will continue to rise well after that.

So – when you begin to contemplate Plans and Budgets for your business in 2010, which of these scenarios will you be planning against?

The Change in Consumer Behaviour

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According to a survey for The Children’s Mutual, a trust fund provider, the tooth fairy is paying an average of 6% less than last year for children’s teeth.

This is one of countless indications on how consumer spending behaviour is changing in response to the recession.

But what will happen as the economy recovers? Will consumers return to their previous spending behaviour or will they maintain their new more frugal pattern of spending?

What assumptions will you be making for the future of your business?

The Story Unfolds

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Some quotes: "There are senior people in Washington who are now saying that talk of ‘Depression 2′ was greatly exaggerated" – Prof Neil Ferguson, Economic Historian at Oxford University speaking on Channel 4 News on Sunday 22nd March.

"RPI Inflation at zero percent and CPI inflation RISING to 3.2% in February – in both cases this is much higher than people were expecting. Somebody somewhere got their sums wrong." – Andrew Wilson, Economics Editor, Sky News commenting on today’s inflation figures.

Well, sorry guys, but it was so predictable that anyone who has been following Schezzer will have known what to expect.

We now have Mervyn King saying today that "The UK cannot afford a further fiscal stimulus" – too right!

Whoever did those sums back in November was in a serious state of panic. Now we have to put up with consequences in terms of rising inflation for years to come.

So what’s next?

Well, don’t expect inflation to accelerate off the map this year – it doesn’t work like that. But don’t believe the doomsters and expect deflation either. The numbers may be such that the March RPI rate could well show a small year-on-year decline but expect the CPI to continue to edge upwards. The economy has been over-stimulated because the government has lost track of the extent to which the New Economy – ie the digital economy – drives things these days.

This recession has marked a "shake out" between the old, 20th Century, production-focussed economy and the new, 21st Century, demand-led economy. In my view, the new economy will actually be better for Britain than the old economy. It is an economy where, as a result of our inherent set of skills, we have a competitive advantage over many other countries. But more of that another time.

The key point is that, unlike in the pre-digital, production era, services of all kinds can now be packaged and sold around the globe instantly. When I learned economics at school I was told "services cannot be exported – you can’t export hair-cutting, for example". Well, try telling that to Toni & Guy.

Through successful franchising, Britain can, if it wishes, export its skills in the service industries all around the globe and use the digital economy to design and manage every aspect of the franchisee’s activity. All it takes is imagination, creativity and entrepreneurial talent – and Britain has all of those in spades.

The trick will be to focus on exporting to the developing nations, especially the Pacific Rim. So if you have any contacts in Australia – give them a call!

My view is that the worst of the recession is now technically over and things will start to recover – and much more quickly than people expect. But some things, like Woolworths, are lost forever. They were part of the previous economic era.

So, expect the economy to "officially" be bumping along the bottom for the next 3 to 6 months but after that things will recover.

And the new world will be better than the old in many respects.

The one area that will hurt for years though is the money sunk into the banks. That will take a generation (25 years) to put right.

My advice – take out a fixed interest rate loan right now – for as much as they’ll let you have. When inflation starts to take off you will see the value of the debt shrink in real terms surprisingly quickly.

So, Q1 2009 will turn out to be the low point, recovery begins in Q2 and things will gradually get stronger through the rest of 2009 and into 2010. Not exactly a boom but certainly stability will return. You can count on it.

What are the key questions you need to ask to successfully manage your business through the era of austerity?

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Try these:

  • How far will my sales fall (or, will they fall at all)?
  • What expenditures can I cut without undermining the core strength of my business and still making sure we survive the storm?
  • How can I use this event as an opportunity to ready my business to meet the needs of a post-era of austerityary, 21st Century-shaped future, instead of a pre-era of austerityary, 20th Century-shaped past?

Understanding what the future looks like

This era of austerity is different to the previous two or three, and this is not simply as a result of the “credit crunch”.

Three fundamental changes have occurred which mean that economic life in Britain after the era of austerity will be conducted on a very different basis to before.

  • the very obvious change in the attitudes of financiers to loaning money
  • the digital revolution, of which the internet is just part
  • the environmental dimension

A new attitude towards financial risk

This will reduce the underlying rate of growth of borrowing – with a knock-on effect into the rate of growth of house prices – for many years to come. Plus there is the tremendous growth in government debt. This will have to be repaid and, ultimately, will either lead to a period of very high inflation or, if the lid is kept on the money supply, much lower levels of disposable income as the debts are gradually reduced. Either way the net effect will be continued low levels of consumer demand due to low income and high uncertainty.

The Digital Revolution

The era of austerity has accelerated the trend towards on-line shopping and even though it’s not ideal for every industry at the moment, this is changing fast.

The internet has also created a market for re-selling “new and nearly new” products at a fraction of their high street prices and opened-up direct imports from many new channels of cheap supply. Consequently, already in one way or another all sectors are feeling the price pressure from the effects of the new “perfect market” that the internet is taking us towards.

And it doesn’t stop there. The digital revolution has produced a massive increase in the world’s productive capacity alongside a massive decrease in the cost of production. Whilst this initially fuelled a boom in demand it has now created a substantial over-supply situation that had already led to the prices of some goods falling in absolute terms long before the era of austerity started.

The upshot for retailers and manufacturers is that to stay relevant they must “innovate, innovate, innovate” – in products, in customer service and in value. Otherwise margins will be continually eroded as the products they sell, and the way they sell them, become totally commoditised. Branding will be key.

The Environmental Dimension

Companies that harness the perceived new need to “consume responsibly” as we move towards a less ‘fossil-fuel-based’ global economy are already finding themselves rewarded with increasing market shares. This need will grow further in the years ahead and will lead to a new generation of goods and services explicitly designed to support it. Knowing how to harness these alongside traditional needs will be a cornerstone of future success.

Fighting for the Future

To help you plan for the future we can:

  • Tell you where your current sales will fall to so you can plan now, not just react later
  • Use existing industry research, your own data, and our understanding of consumer dynamics to judge how far and how fast sales will recover
  • Use the 5 key dimensions of marketing effectiveness to find out how well your business is tuned to meet and profit from the future and to tell you what changes you need to make to be ready for a new dawn

Every business needs to decide how and where to spend it’s money in order to maximise its success. It’s not just about great products, great prices, great service, or great satisfaction. It is all of these, and more, multiplied together.

The enclosed slides explain the 5 key dimensions every business needs to look at, and quantify their performance on, to know they are making the right moves at the right times to get the biggest bang for every £ they spend.

We can evaluate the strengths and weaknesses of a company in the eyes of its customer’s using these 5 dimensions and experience has shown that this is then totally predictive of future underlying sales performance. Moreover, it highlights which aspects are falling short and which ones, if fixed, would provide the greatest dividends. They are not necessarily the same list.

Sabre Forecasting – the Future Revealed

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The Sabre (Schezzer’s Advanced But Really Easy!) approach to forecasting is designed to cover topics on all aspects of forecasting from the real world to the virtual, from the statistical to the intuitive, and from the physical to the spiritual. If you wish to add your thoughts on forecasting then don’t wait…drop us a line now.
One thought that you should always bear in mind: "The art of forecasting is not to be correct, it is to be wrong for more sophisticated reasons" (anon).
Cheers and Season’s Greetings