L M N 123.2 A B C D E F G H I 3 Drift Forecasting A forecast is always based on a "hypothesized scenario'. 5 As we said earlier in this Workbook, developing a hypothesized scenario is highly judgmental and is a combination of art and science. As discussed in "Intro to Forecasting' a Judgmental Forecast may also include some "Drift' as an alternative to a naive forecast. 7 The Drift assumes a modest improvement or degradation of the recent figures over time, i.e., a positive or negative drift in the model's driver. 8 This is similar to following a trendline, although the trendline may also be created using a statistically derived figure applying Regression. 9 In addition to a "Naive' or 'Drift" forecast, the financial analyst may also simply use the average of values of the previous several years. -0 1 If the financial analyst were to create a drift forecast for 2021E, what values should you insert in the yellow cells in 2021E? 2 In the yellow cells below in column G, insert your drift forecast. 3 4. EXHIBIT: SIMPLEST COMPANY MODEL WITH A DRIFT FORECAST -5 2018 2019 2020E 2021E -6 -7 Revenues 100 110 123.2 8 Growth 10% 12% -9 Cost of Revenues 60 64 69 123 0 Gross Profits 40 46 54 54 -1 Gross Margin 40% 42% 44% -2 Operating Expenses (OpEx) 15 17 17 3 3 OpEx Percent of Revenues 15% 14% 4 EBIT 25 29 37 5 Source: Marianne Wolk & Richard Horwitz 6 Forecasting Using a Basic Hypothesized Scenario As we indicated in "Intro to Forecasting', even a Judgmental Forecast includes a point of view. 9 Though it is not thoroughly analyzed, the forecast always includes some judgement about the future which reflects a basic hypothesis. 0 As a reminder, "Fundamental Forecasting' involves conducting in-depth analyses to support the hypothesis and will be explored in the next Workbook. 1 Let's start by hypothesizing that the company will do exceptionally well with the following results in 2020E. 2 Growth accelerating to 20%, 3 Gross Margin increasing to 50% 4 -4 OpEx Percent of Revenues staying flat. 5 What would the EBIT be in 2020E be? -6 7 In contrast to this optimistic scenario, let's hypothesize a draconian scenario. 8 Let's assume a new competitor enters the market and destroys the market: 29 9 Revenues decline by 25% (Growth is -25%) % "O Gross Margin decline to 30% 1 OpEx Percent of Revenues increases to 20% because of higher selling and marketing expenses 2 What would the EBIT be in 2020E be? 3 4 If both of the above boxes are not red, you have successfully used the mechanics of hypothesized forecasting. . 15%