Financial Plan: Funds, Cash, and Projections

1. Lesson 11FINAL UNIT:FINANCIAL CONSIDERATIONS DOWNLOAD THE ATTACHED EXCEL FILES WHICH ACCOMPANY THIS LECTURE

2. COPY OF EXCEL FILES

3. The Financial Plan Provides a complete picture of: • How much and when the funds are coming into the organization. • Where the funds are going • How much cash is available • The projected financial position of the firm

4. The Financial Plan • Provides the short-term basis for budgeting and helps prevent a common problem – lack of cash. • Must explain how the entrepreneur will meet all financial obligations and maintain its liquidity. • Will need three years of projected financial data for outside investors.

5. The Financial Plan – its components • Table #1 - Capital Equipment Listing • Table #2 - Start-up Costs • Table #3 - Sources of Funds • Table #4 - Balance Sheet • Table #5 - Projected Income Statement • Table #6 – Projected Cash flow Software Packages

6. The Financial Plan – its components • Operating and Capital Budgets • Pro forma income statements • Pro forma cash flow • Pro forma Balance Sheet • A Break-even Analysis • Pro forma Sources and Uses of Funds • Software Packages

7. Operating and Capital Budgets • If the entrepreneur is a sole proprietor, he/she will be responsible for the budgeting decisions. • In a partnership, or where employees exist, the initial budgeting process may begin with one of these individuals. • Final determination of budgets will ultimately rest with the owners or entrepreneurs.

8. Operating and Capital Budgets A Production or Manufacturing Budget falls under this category. • This budget provides a basis for projecting cash flows for the cost of goods produced. • The important information in this budget is the actual production required each month and the needed inventory to allow for changes in demand • It reflects seasonal demand or marketing programmes which can increase demand and inventory.

9. Operating and Capital Budgets • The Operating Budget: • Fixed expenses (incurred regardless of sales volume) include rent, utilities, salaries, interest, depreciation, and insurance. • The entrepreneur will need to calculate variable expenses, which may change from month to month depending on sales volume, such as advertising and selling expenses.

10. Operating and Capital Budgets The Capital Budget: • Capital budgets are intended to provide a basis for evaluating expenditures that will impact the business for more than one year. • It may project expenditures for new equipment, vehicles, or new facilities. • These decisions can include the computation of the cost of capital and the anticipated return on investment using present value methods. • The entrepreneur should enlist the assistance of an accountant.

11. Pro forma Income Statements To prepare a pro forma income statement: • Calculate sales by month • Project operating expenses for each month of the 1st year. • Reference unusual expenses with an explanation at the bottom. • Be conservative especially regarding sales.

12. Pro forma Income Statements • Sales is the major source of revenue, since other activities relate to sales, it is usually the first item defined. • In preparing the pro forma income statement, sales by month must be calculated first. • Market research, industry sales, and trial experience might provide the basis for these figures. • Forecasting techniques, such as a survey of buyers’ intentions or expert opinions, can be used to project sales

13. Pro forma Income Statements • These statements also provide projections of all operating expenses for each month of the first year. • In addition to the 1st year statement, projections should be made for year 2 & year 3.

14. Pro forma Cash flow Because many of the businesses that fail run out of cash, it is important for the entrepreneur to develop realistic, pro forma cash flow statement. • If disbursements exceed receipts, plan to either borrow funds or tap cash reserves. • Invest positive cash flows in short term sources. • Provide different scenarios based on different levels of success.

15. Pro forma Cash flow • Cash flow is not the same as profit. Cash flow results from the difference between the actual cash receipts and cash payments. • Cash flows only when actual payments are received or made. • Sales may or may not result in immediate cash.

16. Pro forma Cash flow • Two Standard Methods to project cash flow. • In the Indirect Method some adjustments are made to the net income based on the fact that actual cash may not have actualy been receive or disbursed. • The Direct Method, a simple determination of cash in less cash out, gives a fast indication of the cash position of the new venture at a point in time.

17. Pro forma Cash flow • It is important for the entrepreneur to make monthly projections of cash, pro forma cash flow. • If disbursements are greater than receipts in any time period, funds will have to be borrowed or cash reserve tapped • Large positive cash flows may need to be invested in short term sources. • Usually the first few months of start-up will require external cash in order to cover cash outlays. • The pro forma cash flow is based on best estimates and may need to be revised to ensure accuracy.

18. Pro Forma Balance Sheet The entrepreneur should also prepare a projected balance sheet depicting the condition of the business at the end of the first year. • The Pro forma balance sheet summarizes the assets, liabilities, and net worth of the entrepreneurs. • Every business transaction affects the balance sheet. • The balance sheet is a picture of the business at one moment in time and does not cover a period of time.

19. Pro Forma Balance Sheet • Assets • These represent everything of value that is owned by the business • Categorized as current or fixed. • Liabilities • These represent everything owed to creditors • Categorized as Current and long-term liabilities.

20. Pro Forma Balance Sheet • Owners Equity • This amount represents the excess of all assets over all liabilities. • Represents the net worth of the business • Any profit from the business will also be included in the net worth as retained earnings.

21. Breakeven Analysis • It is helpful for the entrepreneur to know when a profit may be achieved • Is a technique for determining how many units must be sold in order to cover your expenses. • It is the volume of sales needed to cover total variable and fixed costs/expenses. • The break-even point is that volume of sales at which the business will neither make a profit nor incur a loss.

22. Pro Forma Sources & Uses of Fund • This Statement illustrates the disposition of earnings from operations and from financing. • Its purpose is to show how net income was used. • It is often difficult for the entrepreneur to understand how the net income was disposed of. • Typical sources of funds are from operations, new investments, long term borrowing, and sale of assets. • The major uses or applications of funds are to increase assets, retire long term liabilities, reduce owner equity, and pay dividends.

23. Sources of Capital In a nutshell, you may be able to get money: • From your savings account • From the cash value on your insurance policy • By mortgaging your house or taking out a second mortgage • By borrowing money from family members or friends • By working out an agreement with a partner who has money available to invest • By selling stocks • By selling an item of value or real estate • By using valuable items as collateral for loans • As a result of a cash bonus paid by an employer

24. Sources of Capital • Debt vs Equity Financing • Internal vs External Funds • Personal Funds • Family & Friends • Commercial Banks • Government Grants/Soft Loans • Private Placement • Bootstrap Financing

25. TYPES OF FINANCING : Different sources of capital are generally used at different times in the life of the venture. • Debt Financing – involves an interest bearing instrument, usually a loan. - short term money is used for working capital - long term debt (>1 year) is used to purchase assets. - debt has the advantage of letting the entrepreneur retain a large ownership position and have greater return on equity - if the debt is too great, payments become difficult to make, and growth is inhibited.

26. TYPES OF FINANCING Equity Financing • – offers the investor some form of ownership - the investor shares in the profits of the venture - key factors in choosing the type of financing are availability of funds, assets, and interest rates. - usually a combination of debt and equity financing are used.

27. TYPES OF FINANCING Internal versus External Funds • The most often used type of funds is internally generated funds • Comes from within the company – profits, sale of assets, reduction in working capital, accounts receivable • The start-up years usually involve plowing all the profits back into the venture

28. Sources of Capital Personal Funds • Few new ventures are started without personal funds of the entrepreneur • Least expensive • Essential in attracting outside funding • An outside investor wants the entrepreneur to have committed all available assets. • It is not the amount but the fact that all monies available are committed that makes outside investors feel comfortable.

29. Sources of Capital Family & Friends • After the entrepreneur, family & friends are the next most common source of capital. • Family & friends provide a small amount of equity funding for new ventures. • To avoid potential future problems, the entrepreneur must present the positive and negative aspects and the nature of the risks of the investment. • Keep the business arrangement strictly business • Settle everything up front & in writing • A formal agreement specifying details of the funding helps avoid future problems.

30. Sources of Capital Commercial Banks • Most frequently used source of short-term funds • Types of bank loans: • Receivable loans • Inventory loans • Equipment loans • Real estate loans • Conventional bank loans include: • Lines of Credit • Installation loans • Straight commercial loans • Long term loans & Character loans

31. Sources of Capital Commercial Banks • Bank lending decisions can be summarized by the five Cs • Character • Capacity • Capital • Collateral • Conditions

32. Sources of Capital Private Placement • Private investors who may be family and friends or wealthy individuals • An investor usually takes an equity position and can influence the nature of the business to an extent • A private offering is faster and less costly than other funding • There are regulations which contain a number of broad provisions designed to simplify private offerings and specific operating rules

33. Sources of Capital Bootstrap Financing • Bootstrap financing is particularly important at start-up and early years of the venture when capital is more expensive. • Outside capital has many costs • It takes time to raise outside capital when the company can least afford the time • It often decreases a firm’s drive to make money • Availability of capital increases the impulse to spend • It decreases the company’s flexibility and hamper the creativity of the entrepreneur.

34. Time Management • Time is the entrepreneur’s most precious yet most limited resource. • Time is particularly critical at start-up and during growth. • Few entrepreneurs use time effectively. • Most individuals can be three or four times more productive without ever increasing the number of working hours. • The key to effective time management is prioritizing the items that should be accomplished. • Time Management involves investing time to determine what you want out of life.

35. Time Management • Benefits of Time Management • Increased productivity- reflects the fact that there is always enough time to accomplish the most important things. • Increased job satisfaction – comes from getting more important things done and being more successful. • There will be an improvement in the “esprit de corps” of the venture with less time pressure and better results • Less time anxiety and tension • All these benefits culminate in better health for the entrepreneur.

36. Time Management • Basic Principles of Time Management • Principle of Desire – Recognizing that one is a time waster, which leads one to value time and to change personal attitudes. • Principle of Effectiveness. The entrepreneur should focus on the most important issues, even under pressure. • Principle of Analysis. The entrepreneur should know how his/her time is presently being spent.

37. Time Management • Principle of Teamwork. Each team member should employ effective time management. 5. Principle of Prioritized Planning. • Each day the entrepreneur should list tasks and give each a priority. • This focus on key issues allows one to accomplish the most important things. • Principle of Reanalysis. The entrepreneur should periodically review the objectives and degree to which these have been achieved. NB. The efficient use of time should let the entrepreneur grow the venture properly.

38. Financial Management • Maintaining good records and financial controls should be a priority of every growing venture. • Using a software package can enhance the flow of this type of information. • It may be necessary to enlist the services of an accountant or consultant to support record keeping and financial control. • Customer information should be retained in a data base, and customers should be defined as active or inactive.

39. USE OF SOFTWARE • Popular packages include • Quickbooks • Peachtree First Accounting • MS Financial Manager • Managing Your Money

40. Financial Management • During the growth stage, it is often difficult to maintain close scrutiny of where cash is going. • Support Sales. • One of the critical decisions that must be made each year is a forecast of sales. • Sales growth costs money and the entrepreneur needs to assess how much additional cash will be needed to support the new sales in the next period. • Financial Controls during growth are even more critical than at any time in the life of the new entity.

41. Breakeven analysis Constructing pro forma financial statements Cheque writing Payroll Invoicing Inventory management Bill paying Credit management Taxes. USE OF SOFTWARE Spreadsheet programs can be used: