Creating a Successful Financial Plan

1. CHAPTER 11 Creating a Successful Financial Plan

2. The Importance of a Financial Plan • Common mistake among business owners: Failing to collect and analyze basic financial data. • Many entrepreneurs run their companies without any kind of financial plan. • Only 11% of business owners analyze their companies’ financial statements as part of the managerial planning process. • Financial planning is essential to running a successful business and is not that difficult! Ch, 11: Creating a Successful Financial Plan

3. Basic Financial Statements • Balance Sheet – “Snapshot.” Estimates the firm’s worth on a given date; built on the accounting equation: Assets = Liabilities + Owner’s Equity • Income Statement – “Moving picture.” Compares the firm’s expenses against its revenue over a period of time to show its net income (or loss): Net Income = Sales Revenue - Expenses • Statement of Cash Flows – Shows the change in the firm's working capital over a period of time by listing the sources and uses of funds. Ch, 11: Creating a Successful Financial Plan

4. Creating Projected Financial Statements • Helps the entrepreneur transform business goals into reality • Challenging for a business start-up • Start-ups should focus on creating projections for two years • Projected financial statements: • Income statements • Balance sheet Ch, 11: Creating a Successful Financial Plan

5. Ratio Analysis • “How is my company doing?” • A method of expressing the relationships between any two elements on financial statements. • Important barometers of a company’s health. • Studies indicate few small business owners compute financial ratios and use them to manage their businesses. Ch, 11: Creating a Successful Financial Plan

6. Interpreting Ratios • Ratios – useful yardsticks of comparison. • Standards vary from one industry to another; the key is to watch for “red flags.” • Critical numbers – measure key financial and operational aspects of a company’s performance. Examples: • Sales per labor hour at a supermarket • Food costs as a percentage of sales at a restaurant. • Load factor (percentage of seats filled with passengers) at an airline. Ch, 11: Creating a Successful Financial Plan

7. Breakeven Analysis • Breakeven point - the level of operation at which a business neither earns a profit nor incurs a loss. • A useful planning tool because it shows entrepreneurs minimum level of activity required to stay in business. • With one change in the breakeven calculation, an entrepreneur can also determine the sales volume required to reach a particular profit target. Ch, 11: Creating a Successful Financial Plan

8. Calculating the Breakeven Point Step 1. Determine the expenses the business can expect to incur. Step 2. Categorize the expenses in step 1 into fixed expenses and variable expenses. Step 3. Calculate the ratio of variable expenses to net sales. Then compute the contribution margin: Variable Expenses 1 - Contribution Margin = Net Sales Estimate Step 4. Compute the breakeven point: Total Fixed Costs Breakeven Point ($) = Contribution Margin Ch, 11: Creating a Successful Financial Plan

9. Calculating the Breakeven Point:The Magic Shop Step 1. Net Sales estimate is $950,000 with Cost of Goods Sold of $646,000 and total expenses of $236,500. Step 2. Variable Expenses: $705,125Fixed Expenses: $177,375 Step 3. Contribution margin: $705,125 Contribution Margin = 1 - = .26 $950,000 Step 4.Breakeven Point: $177,375 = $682,212 Breakeven Point$ = .26 Ch, 11: Creating a Successful Financial Plan

10. FIGURE 11.8Break-Even Chart for the Magic Shop Ch. 6: Franchising and the Entrepreneur

11. Conclusion • Preparing a financial plan is a critical step • Entrepreneurs can gain valuable insight through: • Pro forma statements • Ratio analysis • Breakeven analysis Ch, 11: Creating a Successful Financial Plan