Whether you're focused on raising capital, meetingventure capital expectations, completing clinical trials, or meeting othermilestones, medical device companies need to predict and plan for the future,taking time to develop and constantly improve a realistic forecast model.
Throughout this interview series, we have heardvarious forecasting best practices, tips, and advice. In myfirst article we heard from Tim DeBone, director offinance and operations at WindsorCircle. In mymost recent article we continued the conversationwith Dave Neal, co-founder of TheStartup Factory, advisor, angel investor, andCFO.
To provide further insights on forecasting bestpractices, I've interviewed Brett Farabaugh, CFO at Tryton Medical, Inc.Brett has a diverse background working with public and private entrepreneurialcompanies after starting his career at PwC. His experience includes financialmanagement, analysis and reporting, initial public offerings and other exitstrategies, investment and acquisition due diligence, and fundraising.
He shared the following forecasting best practices:
What are thebenefits to developing a realistic bottoms-up forecast model?
It's important to have a bottoms-up model becausethen you can more accurately determine what you're expecting for results. Youcan also more easily identify variances when the actuals are known and makedecisions real-time. For example, if you have to hire extra "unplanned" headcountin a region, you will know what the true impact will be for cost/benefitanalysis. This ability can be particularly useful if you have a forecasting modelthat's dynamic and can be adapted.
What are therisks of not having a realistic forecast model?
The biggest risk is that you may not make yourforecast and, consequentially, you may run out of funding before you achieveyour objectives.
When in acompany's life cycle should they develop a realistic forecast model?
It's important to have a realistic forecast modelfrom day one. Obviously it's a little more difficult in the early days and youmay be updating your forecast more frequently, but forecasting takes time toperfect, so the earlier you start the better you're going to get.
How oftenshould a forecast be updated and what are the best practices when reportingyour actual results during the year versus your forecasted plan?
Realistically, a younger company is going to updatethe forecast more often. It just all depends on how dynamic the business is. Obviously,you're going to update your forecast whenever something significant changes inthe business. For a younger company, these updates usually occur at least acouple times a year. For reporting purposes, however, it can be very confusing,so sometimes you may only update your comparisons (or as far as the baseforecast you're comparing to) once a year. It really depends on the size ofyour operations and how dynamic the business is.
What are yourlessons-learned over the years to developing a realistic forecast?
The biggest lesson is really practice makes perfect.Ultimately, it's difficult the first time you do anything, but the more youracumen progresses on developing the forecast, the better you'll be. Usually,there is a primary variable that moves a lot of the numbers so over time, withpractice and experience you can get a better feel for what that prime variableis and then get a better feel with how to forecast it.
What mistakesor war stories can you share related to forecasting?
There are lots of war stories but essentially thebiggest mistakes I've seen people make is not using a bottoms-up forecast, butinstead relying too much on a top-down forecast. Once this occurs, it can bedifficult to clearly understand and explain why there are differences from theforecasts. If you pardon the analogy, if you build a house on sand, it easilycollapses in a storm. If you build yourforecast on just top-down numbers without the supporting bottom's up detailedassumptions, then it's basically going to be only as good as the foundation onwhich it is built.
What industryspecific forecast issues are there?
Well, every industry's got its own issues, butparticularly for the medical device area, one of the biggest challenges ishealth care regulation and reimbursement. These are changing very rapidly andtherefore changing dynamics of the health care industry. As a result, you'vegot an enormous amount of pressure on prices in certain geographies that arevery difficult to forecast. Compounding the issue, you also have tremendousregulatory uncertainty working with the FDA and other regulatory bodies. Incertain situations, you might be able to forecast what the costs are going tobe, but when a study is going to be completed or when an FDA approval is goingto be received is largely beyond your control. You can actually see evidence ofthat our local markets if you look at some of the public companies in thespace, where as a delay or an unexpected FDA result can have dramatic impactson a company's market value.
What advicewould you share to new entrepreneurs that plan to raise capital?
I would encourage them to not be shy. A lot of timespeople hesitate to create a bottoms-up forecast because there are so manyassumptions. People start to get a feel that these numbers aren't worthanything because they're built on a thousand different assumptions. That's justthe nature of forecasting. You've got to start somewhere. You've got to startyour forecast based on something and you've got to be able to show reasons forwhy the numbers come out how they are. So, building those assumptions andbuilding them in a way that if people challenge them, you can have aconstructive dialogue on them is essential. Do your best, that's all you cando. As I mentioned, you have to havesomeplace to start and a bottoms-up forecast is that place.
Brett Farabaugh's practical advice clearly points tothe value of building a bottoms-up forecast as early as possible in the life ofa company to develop a deeper understanding of the business and underlyingassumptions that drive it. Thisknowledge will allow you to develop a realistic financing plan to achieve theplanned milestones during the forecast period.
BrooksMalone is a CPA and partner at Hughes Pittman & Gupton, LLP with 27 years ofpublic accounting experience. He leads the Technology practice group at HPG,and co-leads the Firm's Life Science practice group serving bootstrapped andinvestor-backed technology, medical device, and life science companies. A former CED board member, he is also alisted contributor to the National FastTrac Tech Curriculum that was funded bythe Kauffman Foundation.