Last week we discussed about our Marketing Plan and Operations Plan. We continue from that point.
Part 6: Financial management plan
Your good idea is likely to turn into your worst nightmare if you ignore or are unrealistic about the financial aspect of your business. If you’re one of those creative types or a mover and a shaker who hates to work with numbers, you may decide to blow off the financial part of the business plan.
Doing so, might cost you at minimum some thousands of Rupees you need to grow your business and at maximum the very existence of the business itself.
This financial analysis is often the most difficult part of a business plan for small business people. It is easy to wax poetic about your great idea and how it will make the gang rich. But putting real numbers to those projections is hard work. Even so, you have to do it. You have to crunch some realistic numbers to go along with your realistic plan.
Not only the difficult part but financial management is the most-often neglected part of every small-business venture. Don’t let it be yours! Before you launch your business, do the research to come up with the financial projections we describe in the following sections. But before you do any of your financial projections, consider the following: Ask your finance advisor (if you’re working with one) to show you examples of similar financial projections from other business plans to use as a guideline. Don’t bother projecting more than three years out; the assumptions you make will be too vague. (Exception: Some outside investors may require five-year projections.)
Thoroughly identify the assumptions you make. The conclusions you reach will be no better than the quality of your assumptions. Prominently itemize these assumptions in your business plan to allow the reader to know exactly what they are and how they were made.
In the likely event that you don’t know how to produce the pro forma profit and loss statement, balance sheet, and cash flow projections (all of which we explain in the following sections), you can (a) hire a finance advisor, (b) hire a business-plan consultant, (c) purchase a business-plan-software package, (d) learn to use spreadsheet software and do the projections yourself.
We recommend that you use a program such as Microsoft Excel for your projections. If you don’t know how to use a spreadsheet, either find out how (from computer-training companies in your community or good books on the topic) or have someone else set one up for you. If you don’t understand the difference between a profit and loss statement and a balance sheet, let us tell you - . Spreadsheets and financial statements are tools that every successful small-business owner needs to understand. You can find out how to use them now or later — but sooner is better!
A. Pro forma profit and loss statement
A pro forma profit and loss statement is a projected income and expense plan that summarizes your estimated revenue and expenses over a specified period of time. As we said, the accuracy of your pro forma profit and loss statement depends on the quality of the assumptions you make.
If you make good assumptions going in, then you can expect meaningful results. Preparing a pro forma profit and loss statement forces you to think through the questions you need to answer to arrive at the assumptions you make. Estimating your expenses for your pro forma profit and loss statement is relatively easy. The most difficult assumptions you have to make are your sales and other income (revenues) and your gross margin (gross profit).
Many small-business owners generate two or even three separate proformas - for example, a best-case scenario, a middle-case scenario, and a worst-case scenario. Prepare your profit and loss projections for the first three years of your business (unless you’re seeking venture capital funding, in which case the first five years may be required). Anything longer requires too many far-out, hard-to-make assumptions.
Compute the firstyear’s pro forma on a monthly basis and the second and third years’ on a quarterly basis. If you don’t know how to read financial documents, much less prepare them, we suggest that you pick up a book on guide to investing or take a good class in how to read financial statements with a known accountant.
Also, you can take advantage of business plan software (such as Business Plan Pro), most of which include financial projection templates.
B. Balance sheet
A balance sheet measures your business’s resources (assets) and obligations (liabilities) at a particular time.
The balance sheet is important to understand and, incidentally, is just as relevant to your personal financial situation as it is to your business one. As a matter of fact, if you apply for a loan at a financial institution, you’ll almost certainly have to submit a personal balance sheet. (If you aren’t currently keeping one to track your family’s assets, you should be.)
Although we recommend that every business include a balance sheet in its business plan, it’s especially relevant for those businesses that have significant noncash assets tied up in such categories as inventory and accounts receivable. As with the profit and loss statement, prepare a projected balance sheet for the first three years of business; project the first year on a monthly basis and the second and third years on a quarterly basis.
C. Cash flow projections
Cash flow is the amount of cash that moves through your business in the form of receipts (representing an increase in cash) and expenses and capital expenditures (representing a decrease in cash). Cash flow is the practical side of the accounting equation, representing the cash required to keep your business operating on a day-to-day basis.
Don’t confuse cash flow with profitability, an accounting term that measures the results of the entire operation of the business (of which cash is only one important part) over a given period of time. While profitability provides the benchmarks for measuring the effectiveness of your operations, cash flow is what pays the bills.
As a prospective business owner, you need to project your business’s cash needs before going into business so that you know how muchmoney you need to raise. As with profit and loss and balance sheet projections, project your cash flow needs for the first three years of the business.
Keeping Your Plan Current
Guarantees are dangerous in small business, but we can make two without hesitation: The immediate progress of your business will deviate from your original plan. Your business will change dramatically from what you’ve envisioned even in the first year. Deviation and change are constants in this sometimes roller-coaster endeavor, but deviation and change are why many small-business owners select this career path in the first place.
To make the necessary adjustments in response to the deviation and change you’re sure to experience, you must keep your business plan current. Take a day away from the office every 6 to 12 months to dissect the important parts of your business plan -particularlythose involving staffing, marketing, distribution, and product development -and answer the following questions: Has the business developed according to plan within each of these areas (staffing, marketing, distribution, and product development)? If not, why?
In areas where the business hasn’t developed according to plan, do you want to get back on track? What adjustments will you make in each area to get back on track? Given the passage of time, where do you want your business to be a year from now, and what changes should you make to support that new direction? Then work at making your changes to the plan, remembering that, if those changes have a financial impact on your business (most important changes do), you must also apply the changes to the pro forma profit and loss statement and to your balance sheet and cash flow projections.
A significant change in bottom-line income will obviously impact key balance sheet numbers, which in turn will affect such key measures as the debt-to-equity ratio and the current ratio. Extreme variations in these ratios influence your credit lines, your relationships with lenders and vendors, and your long-range plans for capital expenditures and new hires.
Creating a business plan is a one-time experience, but keeping it up to date is an ongoing task -which, when you think about it, is not unlike the relationship between starting a business and actually running and maintaining one.
Appendix
The appendix of a business plan is usually the last section to appear in the business plan. Although not required, a well-structured appendix can go a long way toward convincing your reader you’ve got a great business idea, or indeed that you have thoroughly thought through your idea.In general, here are few of the documents you might think to include in your business plan appendix:
Charts, graphs, or tables that supplement information from other sections of your business plan; Any agreements or contracts that you have with clients or vendors; Licenses, permits, patents and trademark documentation; Product illustrations or product packaging samples;Resumes for each of your executive team members; Contracts and supporting documents for anything else; Contact information for attorneys, accountants, advisors, and so on
Finally, it is better if you review your Business Plan every six months, at least, during the first three years.
(Lionel Wijesiri is a retired company director with over 30 years’ experience in senior business management. Presently he is a freelance newspaper columnist and business writer. He could be contacted on lawije@gmail.com)
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