copyright © 2014 pearson education 11 - 1 ch, 11: creating a successful financial plan

Copyright © 2014 Pearson Education

The Importance of a Financial Plan

11 - 2Ch, 11: Creating a Successful 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.

Financial planning is essential to running a successful business and is not that difficult!


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.


The Accounting Equation

The relationship between assets, liabilities, and owners’ equity

Assets

Things of value that a firm owns(Cash, inventory, equipment etc.)

Assets

Things of value that a firm owns(Cash, inventory, equipment etc.)

Liabilities

A firm’s debts and obligations

Liabilities

A firm’s debts and obligations

Owners’ Equity

The difference between a firm’s assets and itsliabilities(Funds from investors and profit)

Owners’ Equity

The difference between a firm’s assets and itsliabilities(Funds from investors and profit)

= +


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


Projected Financial Statements Answer


What profit can the business expect to earn?What profit can the business expect to earn?What sales levels must be achieved?What sales levels must be achieved?What are the fixed and variable expenses?What are the fixed and variable expenses?


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.



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:


Contribution Margin = 1 - Variable ExpensesNet Sales Estimate

Step 4. Compute the breakeven point:

Breakeven Point ($)

= Total Fixed Costs Contribution MarginContribution Margin


Calculating the Breakeven Point:The Magic Shop

Step 1. Net Sales estimate is $950,000 with Cost of Net Sales estimate is $950,000 with Cost of Goods Sold of $646,000 and total expenses Goods Sold of $646,000 and total expenses of $236,500. of $236,500.

Step 2. Variable Expenses: $705,125Variable Expenses: $705,125Fixed Expenses: $177,375Fixed Expenses: $177,375

Step 3. Contribution margin:Contribution margin:


Contribution Margin = 1 - $705,125$$950,000

Step 4. Breakeven Point:Breakeven Point:

Breakeven PointBreakeven Point$$

== $177,375$177,375

.26.26

= .26= .26

= $682,212= $682,212


Breakeven Chart for the Magic Shop


..

Copyright © 2014 Pearson Education 1 - 11Ch, 11: Creating a Successful Financial Plan

ConclusionConclusion

Preparing a financial plan is a critical step

Entrepreneurs can gain valuable insight through: ► Pro forma statements

► Breakeven analysis


The Importance of Cash

“Everything is about cash – raising it, conserving it, collecting it.”

Guy Kawasaki

12 - 12Ch. 12: Managing Cash Flow

Common cause of business failure:

Cash crisis!


Cash Management

Cash management – forecasting, collecting, disbursing, investing, and planning for the cash a company needs to operate smoothly.

Young and growing companies are “cash sponges.”

Know your company’s cash flow cycle.



Cash and Profits Cash ≠ profits.Cash ≠ profits. Profit is the difference between a Profit is the difference between a

company’s total revenue and total company’s total revenue and total expenses.expenses.

Cash is the money that is free and Cash is the money that is free and readily available to use.readily available to use.

Cash flow measure a company’s Cash flow measure a company’s liquidity and its ability to pay it bills.liquidity and its ability to pay it bills.



Preparing a Cash Budget

1. Determine a Minimum Cash Balance

2. Forecast Sales

3. Forecast Cash Receipts

4. Forecast Cash Disbursements

5. Estimate End-of-Month Cash Balance


(continued)


Benefits of Cash Management

Increase amount and speed of cash flowing into the company

Reduce the amount and speed of cash flowing out

Make the most efficient use of available cash Take advantage of money-saving opportunities

such as cash discounts Finance seasonal business needs



Benefits of Cash Management

Develop a sound borrowing and repayment program

Develop a sound borrowing program Impress lenders and investors Provide funds for expansion Plan for investing surplus cash


(continued)


The “Big Three” of Cash Management

1. Accounts Receivable

2. Accounts Payable

3. Inventory



Cash FlowCash Flow


Cash

Accounts Payable

Decrease in CashDecrease in Cash

Production/Cash Purchases

Inventory

Accounts Receivable

Cash Sales

Increase in CashIncrease in Cash

Leakage

Leakage


Conclusion

“Cash is King” Cash and profits are not the same. Entrepreneurial success means operating

a company “lean and mean.”►Fit wasteful expenditures.► Invest surplus funds.►Plan and manage cash flow.



Raising Capital

Raising capital to launch or expand a business is a challenge.

Many entrepreneurs are caught in a “credit crunch.”

13 - 21Ch. 13: Sources of Financing: Debt & EquityCh. 13: Sources of Financing: Debt & Equity


The “Secrets” to Successful Financing

1. Choosing the right sources of capital can be as important as choosing the right form of ownership or the right location.

2. The money is out there; the key is knowing where to look.

3. Raising money takes time and effort.

4. Creativity counts. Entrepreneurs have to be as creative in their searches for capital as they are in developing their business ideas.



The “Secrets” to Successful Financing

5. The Internet puts at entrepreneur’s fingertips vast resources of information that can lead to financing.

6. Put social media to work to locate potential investors.

7. Be thoroughly prepared before approaching lenders and investors.

8. Entrepreneurs cannot overestimate the importance of making sure that the “chemistry” among themselves, their companies, and their funding sources is a good one.

9. Plan an exit strategy

13 - 23

(continued)

Ch. 13: Sources of Financing: Debt & EquityCh. 13: Sources of Financing: Debt & Equity


Equity Capital

Represents the personal investment of the owner(s) in the business.

Is called risk capital because investors assume the risk of losing their money if the business fails.

Does not have to be repaid with interest like a loan does.

Means that an entrepreneur must give up some ownership in the company to outside investors.



Debt Capital

Must be repaid with interest. Is carried as a liability on the

company’s balance sheet. Can be just as difficult to secure as equity

financing, even though sources of debt financing are more numerous.

Can be expensive, especially for small companies, because of the risk/return tradeoff.



Sources of Equity Financing

Personal savings Friends and family members Crowd funding Angels Partners Venture capital companies Corporate venture capital Public stock sale – “going public” Simplified registrations and exemptions

13 - 26Ch. 13: Sources of Financing: Debt & Equity

(continued)

Ch. 13: Sources of Financing: Debt & Equity


Crowd Funding

Crowd funding taps the power of social networking and allows entrepreneurs to post their elevator pitches and proposed investment terms on specialized Web sites and raise money from ordinary people who invest as little as $100.►The amount of capital sought tends to be

small – less than $10,000.►The returns for investment are tokens –

discount coupons and free samples.



Angels

Wealthy individuals who invest in emerging entrepreneurial companies in exchange for equity (ownership) stakes.

An excellent source of “patient money” for investors needing relatively small amounts of capital typically ranging from $100,000 (sometimes less) to as much as $5 million.

Willing to invest in the early stages of a business.



Partners

Giving up personal control Diluting ownership Sharing profits “For every penny you get in the door, you

have to give something up.”



Venture Capital Companies

Most often, venture capitalists invest in a company across several stages.

On average, 96-98% of venture capital goes to:►Early stage investments (companies in the

early stages of development).►Expansion stage investments (companies in

the rapid growth phase). Only about 2% of venture capital goes to

businesses in the startup or seed phase.


(continued)



Corporate Venture Capital

About 300 large corporations across the globe invest in start-up companies.

Approximately 14% of all venture capital invested is from corporations.

Capital infusions are just one benefit; corporate partners may share marketing and technical expertise.



Going Public

Initial public offering (IPO) - when a company raises capital by selling shares of its stock to the public for the first time.

Since 2001, the average number of companies making IPOs each year is 134.

Few companies with less than $25 million in annual sales make IPOs.



Advantages of “Going Public”

Ability to raise large amounts of capital Improved corporate image Improved access to future financing Attracting and retaining key employees Using stock for acquisitions Listing on a stock exchange


In addition to the text



Disadvantages of “Going Public”

Dilution of founder’s ownership Loss of control Loss of privacy Reporting to the SEC Filing expenses Accountability to shareholders Pressure for short-term performance Timing


In addition to the text



The Nature of Debt Financing

Debt financing is a popular tool used by entrepreneurs to acquire capital.

Borrowed capital allows entrepreneurs to maintain complete ownership of their businesses, but must be repaid with interest.

Small businesses are considered more risky than corporate customers.► Prime rate



Other Methods of Financing

Factoring Accounts Receivable – selling accounts receivable outright

Leasing – assets rather than buying them

Credit cards



ConclusionConclusion Capital is key for entrepreneurs. In the face of a capital crunch, business’s

need for capital has never been greater. Sources of capital may include:

►Family and Friends►Angel Investors► Initial Public Offering►Traditional Bank Loan►Asset-based Borrowing►Federal, SBA Loans, and others

13 - 37Ch. 13: Sources of Financing: Debt & EquityCh. 13: Sources of Financing: Debt & Equity 13 - 37

copyright © 2014 pearson education 11 - 1 ch, 11: creating a successful financial plan

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