Understanding Uncertainty and Detail

This morning my email included a Business Plan Pro user asking me how to manage the minute detail of projected interest expense to allow for several different loans with differing rates and terms as part of a business plan.

There is a way to do that in the software, but first, I suggest we think about this for just a second. Do you think business planning is about projecting the future so exactly that using a simple average estimated interest rate applied to your projected liabilities isn’t good enough?   Do you really have time to be modeling the detailed impact of multiple hypothetical interest rates on multiple hypothetical loans as part of a projection that depends on an estimated sales forecast?

Compare the levels of certainty: let’s say interest is normally a percent or two of total expenses, and expenses are normally something like two-thirds of sales. If your sales estimate for future years is within 5% either way, you’re doing way better than most.  How wrong can you go with a simple estimated interest rate, and how much does that affect your projections?  Aren’t we talking about tiny percentages of expense, in a system that has to estimate other elements that have hundreds of times more uncertainty?

Here’s an example with numbers: a company plans to sell $1 million and has interest expense of $10,000.  The range between plus or minus 5% in sales is $100,000, from $950,000 on the low end to $1,050,000 on the high.  So if you miss the projected interest by $2,000?  Or maybe $5,000?   Your projection depends on estimating sales, cost of sales, all expenses, plus flow of assets and liabilities. There is a lot of uncertainty in this system, necessarily, that’s part of the process.  Eventually you will manage the uncertainty by tracking your results every month and checking the difference between what you planned and what actually happened,

— Tim —


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