In today’s increasingly competitive markets, one way to stay ahead of competitors is to launch more and more new products. According to an Institute of Business Forecasting survey, about 17% of companies’ sales revenue now comes from new products, and is growing. To be ready for new product introductions, three steps are necessary:
- Prepare forecasts based on different scenarios,
- Negotiate conditional contracts with suppliers, and
- Be quick in dropping a product that no longer yields enough margin.
1. Scenario Forecasting
New products are the most difficult to forecast because there is no history to go by. Market experience tells us that, by and large, 7 out of 10 new products fail. So, the best strategy is to use scenario forecasting, where forecasts are based on what the likely minimum and maximum sales volumes. Higher volumes typically lower the cost per unit and, thus, have a positive effect on the margin per unit. But most new products are over-forecasted. So, don’t think in terms of cost; rather, think in terms of realistic numbers you can expect, and the risk you can bear.
In the absence of historical sales data, the best way to forecast for new products is to use the Delphi method, where different stakeholders submit their forecasts along with comments. By reviewing different forecasts based on different assumptions with a number of iterations, companies usually arrive at realistic numbers.
2. Negotiate Conditional Contracts With Suppliers
Because of high uncertainty in the demand for new products, it is in the best interest of a company to have flexible contracts with suppliers, which allows, to some degree, the raising or lowering of orders as needed. If you negotiate a contract based on cost, which is mostly the case, you are likely to be stuck with too much inventory of raw materials.
The supplier is willing to give a price break only if you agree to place a large order and give a longer lead time. This can be a problem because products can fail, and their forecasts turn out to be much higher than the actual demand. If, on the other hand, you try to place a minimum order, you may miss opportunity to capitalize on products that do much better than expected. With that, you will not only lose sales but also your reputation in the market. Depending on the supply chain, it may take weeks or months to fully recover. The best thing, under the circumstances, is to look for suppliers that are willing to sign a flexible contract that allows you to raise or lower the quantity by a certain percentage after a certain number of weeks following the launch.
3. Quickly Get Rid Of Poor-Performing Products
It is much easier to launch a product than to drop one. I have seen companies struggle with the idea of discontinuing a failing product. If I’m in sales, I would object too, because dropping it will hurt my revenue numbers. What should matter is not how it would impact a specific function, but how it would impact the company as a whole.
We need a certain return on investment for our new products and the issue should be whether it is generating enough profit for the company. When a product comes closer and closer to the end of its life cycle, sales starts going down, competition from low-cost players intensifies, and margin deteriorates. Because of this competition and decrease in sales, the demand pattern becomes more erratic, and the quality of the forecast deteriorates. The increasing uncertainty about forecasts causes an increase in inventory and a decline in customer service. So, what we wind up with is low margin and more inventory. Consequently, the best thing to do is to rank products in term of margin and be ruthless in dropping those that aren’t driving sufficient profit.
This article originally appeared in the Fall 207 issue of the Journal of Business Forecasting. Click here to become an IBF member and get the journal delivered to your door quarterly, as well discounted access to IBF training events and conferences, members only workshops and tutorials, access to the entire IBF knowledge library, and more.