By Richard Harshaw
Imagine being the captain of a supertanker full of half a million barrels of oil. You have been given the job of taking the cargo from a terminal in the Persian Gulf to the refineries in Houston, Texas. How do you do the job?
You plan. You consult your maps and weather forecasts and satellite images and have the ship’s navigator chart a course that takes you and the cargo to the destination safely and on time.
What if you did not chart a good course? You might end up like the Exxon Valdez! You might lose the cargo, even the ship. That would probably cost you your job!
So why is it in business that most HVAC contractors don’t do a forecast before they set sail on the next fiscal year? A forecast gives you a chance to spot the reefs, avoid the shallows, and dodge bad weather. In non-poetic terms, it helps you plan work flow, adjust the work force in a timely manner, and assure strong cash flows year round.
Doing a forecast is not as difficult as it used to be, especially in this day of computers. Begin by doing a historical analysis of your sales by month. Take your monthly sales over the last three years and compute a weighted average for each month.
A weighted average means you take the oldest data (3 years ago) and multiply it by 1; then take the next oldest data (2 years ago) and multiply it by 2; and take last year’s data and multiply it by 3. Add the three results together and divide that result by 6 (the sum of the weighting factors). This method gives more weight to your more recent activity. Once you know what each weighted month is, add them up for a weighted year, and then figure what percentage of the year each month is.
Next step—look at your P&L and sort each account into one of two buckets: fixed, or variable.
Fixed items are those that are not tied to sales activity. Examples include rent, insurance premiums, depreciation, office salaries, management salaries, interest expense, and so on– any account that is more or less the same amount of money each month.
Variable items are those that tend to move up and down with sales volume. This includes material, labor, subcontracts, freight, postage, fuel and vehicle maintenance, and even advertising.
Next, take a sheet of paper (or a blank spreadsheet on your computer) and set up 14 columns. The first column is for the account titles; the next 12 are for the months of your fiscal year; and the 14th is for the total for each line.
In the first column, write the title of each account on your P&L—Sales, Labor, Materials, Office Wages, Rent, and so on.
For all fixed items, take last year’s total dollars and ask yourself how much this number will change in the coming year. Unless the rent goes up, or your insurance premiums change, or you give your office help a raise, most of these items won’t change much from last year. For those that do, estimate the total for the coming year. Then divide each amount by 12 and enter that figure in the 12 monthly columns, adding them up for column 14. (Example: Rent will be $12,000 next year. Divide by 12 to get $1,000 a month, which goes in each of the 12 monthly columns, and put $12,000 in column 14.)
For the variable items, it is a little trickier. Like the fixed items, you want to estimate where you will end up next year—an increase in the amount, a drop in the amount, and so on. Once you have next year’s totals figured out, multiply each item by the percentage of sales for each of the months. (Example: You estimate labor to come in at $220,000. Your first month is normally 5.2% of your year, so for the first month column, you would enter $220,000 x 5.2%, or $11,440.) Do this for each account all the way across the page, and total the months in column 14.
Finally, do the standard P&L calculation—Sales less Cost of Sales is Gross Margin. From this, subtract Overhead to get Net Margin. If it is positive, great! Now, go make it happen. If it is negative, say, “Oh rats!” and make some changes until you get a profit (at least on paper).
Then, as the year progresses, compare each month’s numbers from the P&L to your forecast to see if you are on track to win or lose. You’ll know by May if you are on a good track or not, and if not, you have 7 months to fix it, or find someone to sell the business to.