1	Financial Projections: How to do them the right way Dr. Jeff Shay
2	Module 7 In this module we’ll provide some insight into developing financial statements There are, however, a few comments that we must offer to you
3	A word of caution Many individuals who are looking to start their own business have little or no experience with developing financial statements Some individuals may have been exposed to financial statements through college business courses but may need to relearn these skills This should not preclude you from starting a business, but there are some suggestions
4	Suggestions If you don’t have experience developing financial statements or feel a bit rusty there are a few alternatives: This may point out a weakness in your team. If this is the case you might want to examine the possibility of finding a financially oriented person to add to the team. Once you have gathered all the information necessary to develop the financials you can hire an accountant or financial professional to provide these services for you. If you choose this option make sure that the individual has small business and/or start-up experience. RockyMountainBusiness.com (RMB) has a number of consultants that we recommend. You can search the RMB site and use the various resources available or go to your local business supply store and purchase business plan software. If you choose this option you should be aware that most investors and financial institutions are familiar with these software packages. As a result, they may question your financial skills because you have used software and may not know what the numbers mean.
5	Moving forward Based on the previous few slides you may choose to assess the alternatives at this point You may also choose to move forward and go through the rest of the module to familiarize yourself with the various aspects of financial statements
6	Financial challenge For those of you who have taken accounting or finance classes, you may find developing your own statements very challenging because… Accounting classes teach you how to analyze already existing financial statements Finance classes teach you how to develop pro forma statements but usually provide you with the numbers Financials for new businesses require you to develop the numbers from scratch
7	Financials for the business plan Your financial statements should include the following: Assumptions page Sources and Uses of Funds Sales forecast Income statement Cash flow Balance sheets We’ll discuss each of these in this module…
8	Getting started with the end in mind Before putting your first number into a spreadsheet, you should understand what the final goal is. Generally speaking, potential investors and lenders want financial statements that: Are based on logical reasoning and realize that there are limitations for start-up businesses because there is no historical basis for projections Can be easily modified. This means that financial statements should be developed in a software program like Microsoft Excel and all statements should be linked Are well organized and easy to navigate around
9	Step #1: Develop your Assumptions Page The Assumptions Page can be considered the heart of your financial statements because they pump the vital information to all of the other pages. Here are a few details to consider: Make the Assumptions Page as elaborate as possible so that you can change one number and have it affect all of the other financials through the links that you have developed Be prepared to add to assumptions page frequently as you conduct more research
10	Assumptions Page Items to include in the Assumptions Page: All sources and uses of funds All items from the income statement All items from the balance sheet These items will all be linked to the other pages By having them in your Assumptions Page you can easily change them there and have such changes reflected in the other statements
11	Step #2: Sources and Uses of Funds Statement A Sources and Uses of Funds Statement includes all of the capital put into the business (i.e., from lenders and investors) and all of the money going out of the business to cover items such as the purchase of land, equipment, etc.
12	Sources and Uses of Funds Brainstorm with your group and develop a list of the sources and uses of funds for your new business venture Sources: All possible sources of money and the amount that you believe the source would provide Uses: All expenditures necessary to get the business started (i.e., inventory, equipment, rent, etc.)
13	Step #3: Develop a Sales Forecast Determine what you can expect to sell during specific periods of time Breakdown to day of week, time, month, etc. Also include the following: Start-up factor – reflects the fact that during the first few months or year of operations you won’t be selling at 100 percent capacity Seasonality factor – reflects any seasonal impact on sales
14	Step #4: Develop Income Statements Use the sales figures that you have from your Sales Forecast Develop a list of relevant expenses for your specific business May want to examine financial statements for similar companies Consider calculating expenses as a percent of sales Develop the Income Statement for Year 1 by month Income Statements for Year 2-3 or 5 by year
15	Expense Projections Here is a short list of some of the expenses that you should consider. Please note that there are probably additional expenses that are specific to your business Salaries, FICA, benefits Rent & Utilities Legal & Accounting Insurance Postage, Phone etc. Advertising/Promotion Travel and Entertainment Debt service Office expense Miscellaneous Taxes
16	Step #5: Develop Cash Flow Statements Cash flow is the most important financial statement for small businesses Actually quite simple to develop Use all the accounts found on your income statement but: Take out any non-cash items such as depreciation Add in any capital expenditures such as buying new equipment at the business start-up and for growth Add in capital received from financing
17	Cash Flow Statements Start off with Year 0 to account for the financing you receive and the non-operating expenditures that you make to get the business started Use the cash flow to determine how much additional capital that you need for the business Your cash balance should never go below 0; if it does it means that you need more money from external sources Not required to be extremely elaborate at this time but realize that in the future you would need to account for accounts receivable and accounts payable cycles and other critical aspects of a cash flow
18	Step #6: Balance Sheets We encourage you to develop balance sheets for each year Balance sheets can be as simple as you want when you are getting started Realize that balance sheets are often the most difficult of the financial statements You will need to incorporate data from all of the previously described statements
19	Balance sheets Balance sheets basically account for what the business owns (Assets) versus what the company owes or has been invested into the business (Liabilities) Let’s take a closer look…
20	Assets (What You Own) Current Assets Highly liquid: cash and near-cash, notes, accounts receivable Less liquid but current: inventories Fixed Assets Illiquid: real estate, equipment Other Assets “Good will” and other intangibles
21	Liabilities (What You Owe) Current Liabilities (come due within one year) Taxes, Accounts and notes payable, accrued expenses Current portion of long-term debt Long Term Liabilities Mortgages, trust deeds, long-term loans (equipment or other) net of current portion of LTD
22	Net Worth (“Owner’s Equity”) Net Worth = Assets minus Liabilities 1. Paid-in or invested capital 2. Retained Earnings 3. Other equity
23	Step #7: Additional analyses Investors and lenders want to know what it will take for you to be successful in your new venture Break even analysis and other financial ratios will help them determine your ability to be successful and to meet your financial responsibilities
24	Break-even Analysis S = FC ÷ GM Where S = Sales at which you make neither a profit nor a loss GM = Gross Margin expressed as a percent of Sales FC = Fixed costs in $$$
25	Break-even plus Profit S = (FC + P) ÷ GM Where S = gross sales to make desired profit P = desired profit GM = gross margin expressed as a percentage of sales FC = Fixed costs in $$$
26	Fixed versus Variable Costs Fixed Costs Any cost which is independent of the sales level. Examples: rent salaries insurance Variable Costs Any cost which rises or falls with the level of sales. Examples: cost of goods sold sales commissions delivery expense
27	Financial Ratios Current ratio Inventory turnover Asset turnover Return on investment Return on assets You may wish to consult with an accountant or financial analysts for assistance with these ratios
28	Review: Specific Statements Assumptions Page Revenue Statement or Sales Forecast Income Statement Balance Sheet Cash Flow - the most important Additional analyses Break-even, financial ratios, etc.
29	The Right Way Create assumption page first Everything relates back to that assumption page Understand interrelationships between assumptions, sales, income projection, balance sheet, and cash flow Understand relationship between specific line items within and across different statements
30	Final Recommendations As we noted earlier, financial statements are perhaps the most important part of your business plan, especially if you are trying to get a loan or attract investors Be honest and make sure that they are realistic If you lack financial skills, use a consultant because poorly developed or incomplete financial statements are the easiest way to scare away lenders and investors
31	Next Module In the next module we’ll be introducing you to Venture Capital Many individuals have heard about venture capital but don’t really understand when it is appropriate to try to attract, what impact accepting venture capital will have on your business, or where to go to gain access to these funds We’ll cover those issues and many more