The ONE big wrong assumption in your business plan?

[Matt Castro]

Hi, all.



In the past few months I have been working with a friend's small start-up, hardgoods business (selling something tangible). The company, my buddy and another guy, asked me to give them an assessment of their business plan and provide any marketing insight I could because neither of them are marketing or sales guys - one engineer and a statistics major.

Well, there were so many issues with the business plan that I've been able to write a lot about it on the blog I run. Some of the biggies were mis-calling pricing, failure to account for distribution expenses (actually, no distribution plan in the buiness plan), undercalling sales and marketing expenses; to name a few.

But it got me thinking, what are some of the ONE big wrong assumptions you or your teams have made at the start of your business (or in your business plans)? Are there good things to learn from those big oversights?


Matt

[nealrm]

I'm trying to figure out what you mean by "undercalling sales" and "mis-calling pricing".

[Matt Castro]

Quite simply, the business plan I was helping with assumed the business would capture retail pricing. Not accounting for the margin sharing through the distribution channel - wholesaler to retailer, etc.. So they had wildly inflated profit figures. And not "undercalling sales" - "Undercalling sales expenses". The costs associated with their sales and marketing strategy - tradeshows, direct selling to retail outlets, etc. They didn't have nearly enough money based on their volume expectations, etc. The BIG ONE tho, was the pricing and impact on ability to spend and subsequently profits.

[rshughes]

Hi Matt, I think there is slight confusion in your use of the word "calling" to mean "projecting" or "estimating" - as in they erroneously projected pricing, and they under-estimated sales expenses. Probably just a regional difference in semantics; we understand what you mean.

Regarding your original question, I think the most glaring error one makes in a business plan is the projection of revenue figures. You know the deal - for the next 5 yrs, sales are projected to increase x% per year. Where 'x' is some (positive) number that reflects the historical growth rate of the industry. Or the growth of GDP over the last 10 yrs. Yah sure, no wonder the net profits always increase from year to year! These rosy spreadsheet projections immediately taint or call into question the credibility of the entire plan (at least for me).

Yes, I'm guilty of doing this, and no, it didn't turn out that way :(

[greenoak]

we have a big brick and mortar store....at the start we seriously underestimated the idea and value of retail sales....we were all about wholesale but at the same time open to the public/ retail...and wholesale was so good we kind of ignored the retail part and for several years......thinking it wouldnt work in our rural area....boy were we wrong...now retail is huge for us and i feel we missed out on a lot of business in our earlier years....we could have done both and pretty easily.... with a little more focus on the retail part....i guess we didnt realize that people would drive far to find us and buy from us..and how different our brand is and was.....
i hope in helping with the business plan you dont put marketing high above what the business is actually offering/making/selling/ and to what market.......imho, that is the main thing....does the offering fit the demand/location/economy .....

[KristineS]

I think the biggest flaw in a lot of business plans is assuming you'll be successful because of location or who you know or what you're selling. Sometimes people get so caught up in the great idea they have or the great location they've found or whatever, and they forget to look at things realistically. There are a lot of factors that go into making a business successful and they all have to come together. You can't rely on one strong factor to cover for weaknesses in other areas.

[ArcSine]

The single blown call I see more often than any other is the projection of product demand, especially with respect to the steepness of the ramp (the infamous "hockey stick" projection). Everybody dons rose-tinted goggles when it comes to that one.

And that one, of course, has a particularly damaging effect, as everything else (cash flow, financing needs and financing repayments, etc.) is ultimately driven off of demand. Also, its sheer magnitude relative to the bottom line makes it the A-bomb of problems. Underestimate utility expense by 10% and everybody yawns. Overestimate customer demand by 10% and you'll have to take a salary or two out of the budget.

Expenses, on the other hand, are usually a lot easier to forecast with at least a measure of accuracy (well, most of 'em, anyhow).

Case in point, I was talking a couple of weeks ago to a chap who had successfully pitched a plan to an investor a few months back. The project had gotten underway but unfortunately, the anticipated product demand fell a bit short (about from here to Cleveland short) of projections. For everything else (capital and oper'g expenditures) the plan had nailed it pretty good. But the unexpected shortfall in revenue has made a major mess of things for this guy, the investor, and the lead banker, sad to say.

[huggytree]

1...i thought if i was $1 cheaper than my competition id get all the business i needed......WRONG

i found out no one trusts the new guy and even when i went $10 less per hour i still got no business...........i had more success by going higher by $5-10 per hour



2...i thought the phone book would get me 5-10 calls a day

i thought as soon as the phone book came out id be an instant success and couldnt wait....the books came out.....and the phone was silent

reality i got 4-10 jobs a year...completely worthless....im no longer in the large phone books...........95% of the calls are price shoppers and competition price checking


when you first do a business plan its probably going to be more wrong than correct....the more correct the better your startup will be....everyone HAS to make assumptions....if youve never been in business before how do you know many things like pricing and advertising....all of that takes experience

id say it took 9-10 months before my adjusted plan was 75% correct and ive been fine tuning it ever sense....

[Matt Castro]

@rhughes. Good point. Straight to the point. I do agree that it's the top line that gets inflated most quickly. The most recent case I was working on was just that, but price not units was the driver. Same basic outcome. Crazy sales and profit growth. And the longer the time horizon the better to absorb all the negative numbers in the first 2 years!

Thanks for the comments.

[Matt Castro]

@ann:

Thanks for comments. Interesting to read that story. But good adjustment on the strategy toward retail. If the customers are telling you they want something, good idea to listen, eh?

Matt

[Matt Castro]

@arcsine:

Yes! Hockey stick it is. "Oh, yeah, we'll lose a few bucks the first couple of years but look at years 3-10! Whoa Nelly!" (not that I've ever said this). I'm now finding that what used to be the first couple of years loss for a later gain, is now getting erased and I'm seeing forecasts of 2 year break-even on new hard-goods businesses. So it's not even a late-stage hockey stick but a pogo-stick.

@huggytree

Good point on price and value. It's in the eyes of the customer, not ours. Great reminder. And the phone book is a great story by the way. Great lesson about targeting and knowing where the customers we want are looking for us.

Thanks for comments. Great discussion, I think.

[lucas.bowser]

I don't know how you're doing your break-even analysis, but two years seems to be a reasonable time frame to me. If you're not getting there, you may be over-investing in your fixed cost base. I know that small-business owners tend to consider outsourcing a dirty word, but usually it can allow you to work on building up your client base before you make the leap into a fixed cost manufacturing investment. Remember, someone else's spare manufacturing capacity (i.e. fixed cost) can become your variable cost.

[greenoak]

THE 2 BEST POINTS I SEE ON HERE FROM THE closed BUSINESSES I HAVE KNOWN ABOUT IS ...1. overestimating the value and desirability of the product at the start and ....2. not having enough product/investment on hand to reach any good numbers even if the product was wanted..... ive seen those 2 ideas sink many a try when it comes to starting up stores...and ive seen lots of places stick to the plan way too long...usually on family or credit card money....its sad.and costly.....
also ive seen the 2 yr or 5 yr rule thrown around a lot...as in you dont see the profit till then.....what happens is it keeps someone with a bad and or underfunded idea hanging on till the good year kicks in....so wrong!!!! ...that rule doesnt mean you WILL make money when the yr comes around....it very much depends...