Most business plans assume that things will broadly go according to plan. Unfortunately, customers, suppliers and the economy do not always cooperate. One useful exercise is therefore to ask what would happen if sales unexpectedly fell by 10%.
The answer may be reassuring. Alternatively, it may reveal that the business has far less room for manoeuvre than the owners realised. Start with your current turnover and reduce it by 10%. Then consider what happens to costs.
Some costs will fall automatically as sales decline. Materials, commissions and delivery charges are obvious examples. Others, such as rent, insurance, software subscriptions and many employment costs, may remain unchanged.
This distinction matters because a 10% fall in sales can produce a much larger percentage fall in profit.
Next consider cash.
Would lower sales mean customers owed you less, or would existing customers simply take longer to pay? Could stock purchases be reduced quickly? Are there loan repayments, tax liabilities or capital commitments falling due?
The exercise becomes more useful when you consider the response rather than simply calculating the damage.
Which expenditure could be postponed? Would you need additional finance? Could prices be changed? Are there underperforming products or services that should be reconsidered? How quickly could management take action?
You can then reverse the exercise.
What happens if sales increase by 10%? Would additional staff be required? Would you need more working capital to finance stock and debtors? Is there sufficient capacity to cope?
This is simple scenario planning.
It does not require anyone to predict exactly what will happen. Its purpose is to understand how the business responds when circumstances differ from expectations.
Accountants can help clients model several scenarios using information that already exists within the accounting records.
Knowing that profits were £50,000 last year is useful.
Knowing what happens to next year's profit and cash position if sales move 10% in either direction may be considerably more useful.