The mathematical equation known as the “Rule of 78″ has received a bit of a bad reputation because some subprime lenders use it to determine a repayment plan that can be very difficult to pay off.
We’re here to vouch for the Rule of 78 in a different context: Helping you estimate your business’s income for the coming year.
What Is the Rule of 78?
At its core, the Rule of 78 is an equation that can help you plan your yearly income goals for your business at the start of each year.
With the new year right around the corner, you might consider trying out the Rule of 78 to determine the exact dollar amount you’ll need to add each month in repeating income streams.
The Rule of 78 Explained
Here’s the critical point: We are talking about recurring streams of income rather than one-off customers.
If your business brings in recurring sales — like monthly subscriptions or memberships — the Rule of 78 can help you figure out how much you need to add per month in new sales. This rule is helpful if you run a freelancing business and are looking to land clients that offer a monthly retainer. After doing the math, you’ll know how big of a retainer you’ll need to collect from new clients each month to achieve your yearly income goals.
Say you run a magazine, and you bring in $500 of monthly subscriptions in January. That’s income that you can plan on for January, as well as for the 11 remaining months of the year. In February, you bring in another $500 in monthly subscriptions. In addition to the first $500 a month you brought in, you’ll be able to count on this new money for the remaining 10 months of the year.
The Rule of 78 doesn’t multiply your monthly income by 12. Instead, it multiplies your monthly income by 78 because it operates on the idea that you have 78 months per year of income. January counts as 1 month because you have a single income stream. February counts as 2 months because you have added a second income stream. March counts as 3 months because you have added a third income stream, and so on. Add them all up to get 78.
According to Intelliverse, a provider of customer-relationship-management software, “math geeks may recognize the Rule of 78 as the mathematical concept of ‘factorial.'”
How Does the Rule of 78 Work?
The Rule of 78 might seem complicated, but it’s quite simple.
The Rule of 78 Formula
The basic formula looks like this:
1 + 2 + 3 + 4 + 5 + 6 + 7 + 8 + 9 + 10 + 11 + 12 = 78
The rule uses the number 78 rather than 12. It helps small business owners to see the amount of new recurring sales they need to bring in each month to hit their goals by the end of the year.
You can use the Rule of 78 to:
- Calculate the amount of expected yearly revenue based on your current monthly income
- Find out how much you need to bring in each month to achieve your goals.
Say you’ve secured recurring monthly revenue of $500 in January. You’ll continue to make $500 a month from this revenue stream for the following 11 months of the year. In February you bring in a new monthly revenue stream of $500, meaning you’ll continue to take in $500 each month from that income stream for the next 10 months.
Let’s use nature as a metaphor. Imagine many distinct tributaries flowing into one massive river, which represents your yearly income. Each stream grows and grows before it joins the river. By the time all the water combines, each stream has increased in size.
Rule of 78 Calculations
To figure out how much you can expect to make in one year from magazine subscriptions, multiply the total monthly revenue your company brings in by 78. If you bring in $500 each month from magazine sales, the calculation will look like this:
$500 x 78 = $39,000
You’ll bring in $39,000 from magazine subscriptions this year if you secure an additional $500 of recurring revenue each month. Thus, the Rule of 78 helps you estimate what to expect for your total yearly income.
The rule can work in reverse, too, helping you determine what’s needed to expand your company. How? Divide your desired yearly gross income by 78 to calculate what you should be bringing in each month in new income streams.
Say that it’s the start of the year and you want to earn $75,000 in gross income by Dec. 31. To find the amount you’ll need to make in repeating monthly sales, divide your desired income by 78. The math would look like this:
$75,000 / 78 = $961.54
Therefore, you’ll have to add a new income stream of $961.54 each month to achieve your total yearly objective of $75,000.
This number simplifies the guessing game. Knowing you need to add $961.54 each month gives you a more precise objective.
Applying the Rule of 78 to Sales
So you need to add $961.54 in sales each month to meet your goal. That’s great, but now what? To achieve your sales growth target, all you need is a bit more math. The Rule of 78 gave you your monthly goal, so you just need to figure out what it will take to get there.
Say a subscription to your magazine costs $10 a month per customer. You know that you’ll need to add 97 new subscribers each month to reach your overall target goal. This number gives you a better idea of how much you need to invest in marketing your magazine.
This Rule of 78 doesn’t just work with subscription-based businesses:
- You can apply the equation to various types of recurring income streams. If you run a freelancing operation, use the Rule of 78 to calculate the monthly income you need to make with retainers.
- Say you own a bakery. you’ll know the hard numbers of how many companies you need to sign up to receive birthday cakes for their employees each month. If you own a gym, you know how many new members you need to recruit every 30 days.
When should you use the Rule of 78? When you have repeating sources of income, such as monthly memberships, subscriptions or retainers. The Rule of 78 can help your business expand by giving you the exact number of new sales you need to make per month to achieve your yearly income goals.
When should you skip the Rule of 78? If none of your income relies on recurring sales, the Rule of 78 isn’t going to help you.