Financial Data on an example

A. Sources and Applications of Funding

This subsection is needed for financing proposals but also is handy for you as the
owner: Application and Expected Effect of Loan. Major anticipated expenditures
should be supported by copies of contracts, lease or purchase agreements, or other
relevant documents.
The information presented here will show up in the cash flow projections, as the
timing of the funds' flow is particularly important to maintaining liquidity.
B. Capital Equipment List
Your business plan should contain a capital equipment list: to help maintain control
over depreciable assets, for insurance purposes, to insure against letting your reserve
for replacement of capital equipment become too low (or be used as a slush fund), and
to assist in the creation of a cost budget.
Capital equipment is equipment that you will use and wear out or consume as you do
business.
Capital equipment is equipment that you use to manufacture a product, provide a
service, or use to sell, store, and deliver merchandise. It is not equipment you will sell
in the normal course of business but rather is equipment that you will use and wear out
or consume as you do business. This does not include items that are expected to need
replacement annually or more frequently.
C. Balance Sheet
Balance sheets are designed to show how the assets, liabilities, and net worth of a
company are distributed at a given point in time. The format
is standardized to facilitate analysis and comparisondo not deviate from it.
Balance sheets for all companies, great and small, contain the same categories
arranged in the same order. The difference is one of detail. Your
balance sheet should be designed with your business information needs in mind. These
will differ according to the kind of business you are in,
the size of your business, and the amount of information your bookkeeping and
accounting systems make available.
Finestkind Seafoods, Inc.
October 1,19
Balance Sheet
Assets Liabilities
CURRENT ASSETS CURRENT LIABILITIES
Cash $2,150 Accounts Payable $8,077
Accounts Receivable (net) $1,700 Current PortionLong-Term Debt $1,440
Merchandise Inventory $3,900
Supplies $450 Total Current Liabilities $9,517
Prepaid Expenses $320 LONG-TERM LIABILITIES
Total Current Assets $8,520 Note Payable (a) $535
Bank Loan Payable (b) $1,360
FIXED ASSETS Equity Loan Payable (c) $9,250
Fixtures and Leasehold
Improvements (d) $13,265 Total Long-Term Liabilities $11,145
Building (freezer) $4,500
Equipment $3,115 Total Liabilities $20,662
Trucks $6,500
Total Fixed Assets $27,380 NET WORTH
Owners' Equity $15,238
Total Assets $35,900 Total Liabilities and Net Worth $35,900

ACCOUNTS PAYABLE DISPLAY

Eldredge's Inc. $3,700
Lesswing's $4,119
Paxstone $180
B&B Refrigeration $78
$8,077
(a) Dave N. Hall for electrical work.
(b) Term loan secured by 1987 Jeep, 1992 Ford.
(c) S & C Finance Corp., Anytown, Maine.
(d) Includes $10,000 in improvements since June.
The categories can be defined more precisely. However, the order of the categories is
important and you should
follow it. They are arranged in order of decreasing liquidity (for assets) and decreasing
immediacy (for liabilities).
Examine the sample balance sheet for Finestkind, for example.
If you need to provide more detail, do sobut remember to follow the standard format. If your
balance sheet is assembled by an accountant, the accountant will specify whether it is done
with or without audit. If you do it yourself, it is without audit. The decision to use a CPA
(Certified Public Accountant) should be made carefully for tax and other legal reasons.
The sample balance sheet for Finestkind is modestly detailed. No depreciation has been taken,
for example, because the business has just been started. The net worth section could have
been more complex. The important thing to notice is that it provides a level of detail
appropriate for the purposes of the principals, who own all of the stock.
The balance sheet for Finestkind provides a level of detail appropriate for
the purposes of the principals, who own all of the stock.
Some financing sources (banks or other investors) may want to see balance sheets projected
for each quarter for the first year of operation and annually for the next two. This would
quickly show changes in debt, net worth, and the general condition of the business, and could
be another helpful control document. You may wish to have a monthly balance sheet (easily
done with a microcomputer-powered accounting system), but for many businesses, a year-end
balance sheet is all that is required.
Preliminary Balance Sheet Analysis
1. Working Capital. Working capital is calculated by subtracting current liabilities from
current assets. Cash is only a portion of working capital. Finestkind's working capital is
negative [$8,520 $9,517 = ($997)], a dangerous but not uncommon position for many small
(and at times, large) businesses to be in.
A low or negative working capital position is a major danger signal. A firm with this working
capital situation is said to be illiquid. Because owners' equity is less than the debt, the
creditors in effect "own" the business, and bankers would be reluctant to extend further loans.
Among possible solutions to this type of problem would be a working capital loan (long term,
to be repaid from operating profits), sale of fixed assets, or financing accounts payable by
arranging to spread payment over a longer term. The best solution (the one Finestkind chose)
is to get new equity investment.
2. Comparison. Comparison of year-end balance sheets over a period of years will highlight
trends and spotlight weak areas. Because Finestkind is new, this option is not open to them.
However, they can compare their business to other, similar operations by ratio analysis.
3. Ratio Analysis. This technique permits comparison in terms of percentages rather than
dollars, thus making comparisons with other companies more accurate and informative.
Among the more useful ratios are:
A. Current Ratio. This measures the liquidity of the company, its ability to meet current
obligations (those coming due during the current year). It is calculated by dividing current
assets by current liabilities. For Finestkind, divide $8,520 by $9,517. This yields a current
ratio of 0.89, which is well below the current ratio of 2.0 some analysts would like to see.
Finestkind is mildly illiquid. However, you need to know exactly what is represented by the
figures to make a meaningful analysis. Inventory composition, quality of receivables, time of
year, and position in the sales cycle are all possible factors affecting the current ratio.
B. Acid Test. This is another measure of liquidity (sometimes called the quick ratio), and it is
calculated by dividing the most liquid assets (cash, securities, and possibly current accounts
receivable) by current liabilities. For Finestkind, $3,850/$9,517 = 0.40. The rule-of-thumb
ratio should be 1.0.
The rule-of-thumb ratios are far from infallible because the date on which
the balance sheet is drawn and the kind of business will affect the ratios you
come up with.
A word of caution: The rule-of-thumb ratios are far from infallible because the date on which
the balance sheet is drawn and the kind of business will affect the ratios you come up with.
Some companies need a current ratio of 2.7 to be considered liquid, others can get by with 1.5
or less (such as department stores just prior to the Christmas rush when their inventories and
payables are particularly high).
Try to get trade figures for your kind of business from the following:
 Trade associations. These are apt to be very specifica good example would be the Hardware
Association's annual figures. Check with Your local Directory of Associations and call the
appropriate association for more information.
 Annual Statement Studies, which your banker will usually have,
 Some institutions publish Key Business Ratios, Cost of Doing Business: Partnerships &
Proprietorships; also available for corporations.
 Ask a friendly competitor, perhaps in a noncompeting location.
 Ask your banker and accountant for help finding current trade figures.
 Check your local library, business school, and chamber of commerce.

D. Breakeven Analysis
A breakeven analysis provides a sales objective expressed in either dollar or unit sales
at which your business will be breaking even, that is, neither making a profit nor
losing money. Once you know your breakeven point, you have an objective target that
you can plan to reach by carefully reasoned steps.
It is essential to remember that increased sales do not necessarily mean increased
profits. More than one company has gone broke by ignoring the need for breakeven
analysis, especially in those cases where variable costs (those directly related to sales
levels) get out of hand as sales volume grows.
Calculating the breakeven point can be simple (for a one-product business) or very
complex (for a multi-line business). Whatever the complexity, the basic technique is
the same. Some of the figures you will need to calculate will have to be estimates. It is
a good idea to make your estimates conservative by using somewhat pessimistic sales
and margin figures and by slightly overstating your expected costs.

The basic breakeven formula is:

S = FC + VC

where,
S = Breakeven level of sales in dollars,
FC = Fixed costs in dollars, and
VC = Variable costs in dollars

Fixed costs are those costs that remain constant no matter what your sales volume may
be*, those costs that must be met even if you make no sales at all. These include
overhead costs (rent, office and administrative costs, salaries, benefits, FICA, etc.)
interest charges on term loans and mortgages, and "hidden costs" such as depreciation,
amortization, and interest.

Variable costs are those costs associated with sales including cost of goods sold,
variable labor costs, and sales commissions. These cost figures are further elaborated
in the next section, Projected Income Statement. When you want to calculate a
projected breakeven and you therefore do not know what your total variable costs will
be, you have to use a variation of the basic "S = FC + VC" formula. If you know what
gross margin (profit on sales) to expect as a percent of sales, use the following
formula:
S = FC / GM

where, GM = Gross margin expressed as a percentage of sales

If instead of calculating a dollar breakeven you want to determine how many units you
need to sell to break even, simply divide the breakeven derived above in dollars by the
unit price to get the number of units to be sold.
Because sales are projected at a total of $216,000 for the first year, Finestkind doesn't
expect to make a profit but because they know what they are apt to face, they will be
able to plan ahead to finance their business properly.
* These costs remain constant only in a relevant range. Your sales could rise
dramaticallyfor example, you may need a new building, some new administrative
employees, and new equipmentand drive your fixed costs up disproportionately. Fixed
costs tend to move up in chunks, not smoothly, if sales rise quickly. For Finestkind's
experience, look at the three-year projections on page 73. "F" and "V" (on the extreme
lefthand margin) denote fixed and variable cost allocations respectively. Note how the
totals change over three years.
E. Projected Income Statement
Income statements, also called profit and loss statements, complement balance sheets.
The balance sheet gives a static picture of the company at a given point in time. The
income statement provides a moving picture of the company during a particular period
of time.
Financial statements that depict a future period are called pro forma or projected
financial statements. They represent what the company is expected to look like
financially, based on a set of assumptions about the economy, market growth, and
other factors.
Income projections are forecasting and budgeting tools.
Income projections are forecasting and budgeting tools estimating income and
anticipating expenses in the near to mid-range future. For most businesses (and for
most bankers) income projections covering one to three years are more than adequate.
In some cases, a longer range projection may be called for, but in general, the longer
the projection, the less accurate it will be as a guide to action.
You don't need a crystal ball to make your projection. While no set of projections will
be 100 percent accurate, experience and practice tend to make the projections more
precise. Even if your income projections are not accurate, they will provide you with a
rough set of benchmarks to test your progress toward short-term goals. They become
the base of your budgets.
There is nothing sacred about income projections. If they are wildly incorrect, correct
them to make a more realistic guide. When you do this is a matter of judgment. A rule
of thumb is that if they are more than 20 percent off for a quarter (three months), redo
them. If they are less than 20 percent off, wait for another quarter. Do not change your
projections more often. In a short period, certain trends will be magnified, and these
distortions will usually be evened out over the long run. Of course, if you find you
have omitted a major expense item or discover a significant new source of revenue,
you will want to make immediate corrections. Use your common sense.
The reasoning behind income projection is: Because most expenses are predictable
and income doesn't fluctuate too drastically, the future will be much like the past. For
example, if your gross margin has historically been 30 percent of net sales, it will
(barring strong evidence to the contrary) continue to be 30 percent of net sales. If you
are in a startup situation, look for financial statement information and income ratios
for businesses similar to yours. Trade association publications can provide sources for
these.
It is important to be systematic and thorough when you list your expenses. The
expense that bleeds your business dry (makes it illiquid) is almost always one that was
overlooked or seriously misjudgedand therefore unplanned for.
There are some expenses that cannot be foreseen, and the best way to allow for them is
to be conservative in your estimates and to document your assumptions.
Try to understate your expected sales and overstate expenses.
It is better to exceed a conservative budget than to fall below optimistic projections.
However, being too far under can also create problemssuch as not having enough
capital to finance growth. Basing income projections on hopes or unjustified fears is
hazardous to your business's health. Be realistic; your budget is an extension of your
forecasts.
Income statements and projections are standardized to facilitate comparison and
analysis. They must be dated to indicate the period of time they cover and also contain
notes to explain any unusual items such as windfall profits, litigation expenses and
judgments, changes in depreciation schedules, and other material information. Any
assumptions should be footnotedto help remind you of how the numbers were
originally justified and to provide a boost up the learning curve when you review your
projections before making new ones.
Income statements should be reviewed at least once a quarter to check their validity
and, if necessary, to make adjustments or make changes in your business's operations.
As a budget tool, the actual progress of your business should be compared against the
projections every month. You have to detect deviations as soon as possible to correct
problems before they become major and to seize opportunities while they are still
fresh.
Detect deviations as soon as possible to correct problems before they become major
and to seize opportunities while they are still fresh.
Suggested formats for an income statement and an income projection follow. The
content as shown in the sample may have to be modified to fit your particular
operation, but do not change the basic form.
Remember: The purpose of financial statements and forecasts is to provide you with
the maximum amount of useful information and guidance, not to dazzle a prospective
investor.
For the most useful projection, state your assumptions clearly. Do not put down
numbers that you cannot rationally substantiate. Do not puff your gross sales
projection to make the net profit positive. Give yourself conservative sales
figures and pessimistic expense figures to make the success of your deal more
probable. Be realistic.
You want your projections to reflect the realities of your business.
Smaller businesses should make three-year projections for both planning purposes and
loan proposals. The proper sequence for both income and cash flow projections is:
1. A three-year summary.
2. First year projected by month. If the business doesn't break even in the first year,
you might want to continue the monthly projections until it does.
3. Years two and three by quarter.

If you are already in business or are considering taking over an existing business,
historical financial statements should be included for two immediately previous years.
Tax returns help to substantiate the validity of unaudited statements.

A Note on Sales Forecasts

Whether you've been in business for a while or are starting a business, your sales
forecasts are the basis for most of your financial planning.
Your sales forecasts are the basis for most of your financial planning.
One helpful technique to use involves breaking your goods and services into several
lines, then applying a three column form to arrive at a ''most likely" figure.
Begin by assuming the worst. In the column headed "low," put down the sales you
expect if everything goes wrong, poor weather, loss of market share to a new
competitor, new product competition that you can't match, and so on. Be gloomy.
Assume your salespeople will be loutish, lazy and surly.
Then this is more fun assume everything works out the way you'd wish. In the column
headed "high," put down your rosiest hopes. All your promotional efforts will succeed,
markets will grow dynamically, your competition will stub their toes and slink away
from the market, your suppliers will be able to instantaneously fulfill your stocking
requirements.
Now look to a realistic scenario, where things work out in between the high and low
estimates. The figures here will (usually) be more accurate than a one-time estimate
can be, because more thought has gone into their preparation.
Do this for the period you need to forecast.
You can apply the same process to forecasting expenses, even though most expenses
are reasonably predictable once the sales forecasts have been established.
Finestkind broke sales into two categories, wholesale and retail. If they had had a third
line, for example direct mail sales, they would have added a third sales forecast line to
their planning.
Explanation for Income Statement Projections
This section will:
· Explain how the figures on the projection were calculated. Note that Column O,
percent of total sales, provides a way to compare this statement with trade averages as
well as future projections and performance.
· Detail the assumptions that were made. Numerical references have been made by
line for example, (21) Maintenance and Cleaning.
(3) Sales include sales of seafood and ancillary products such as seasonings, sauces,
baitbags, bait. In the future, some tourist items may be included.
(4) Wholesale and (5) Retail. Finestkind plans to service the wholesale trade more
extensively than is shown here, although the trend has been built into the calculations.
Due to a major marketing effort [see (18) Advertising below], wholesale sales should
increase to 60 percent of gross sales within two years. Retail sales are expected to be
more volatile than the wholesale business, leveling off around $20,000/month due to
space restrictions. Volatility is seasonal, building from late March to a late summer
peak. The increases shown in (4) Wholesale are based both on the greater number of
restaurants open in the summer and the intense marketing efforts, planned for the
winter months, to sell directly to the many restaurants that don't yet know Finestkind.
Wholesale sales for September of the preceding year were $9,600, so these figures are
perhaps more conservative than they need to be.
(4) Wholesale in Years Two and Three follow the same pattern as Year One
(seasonality) but start at $10,000/ October Year Two as the result of advertising and
marketing efforts, longer experience with the wholesale market, and greater exposure
to the market. Year Three is a bit more seasonal, reflecting a flattening out of the sales
curve.
The degree of pessimism you should build into a projection is a matter of
judgment. The degree of pessimism you should build into a projection is a matter of
judgment. Some is good; too much can be bad, as it will distort a reasonably good
game plan and make a realistic deal look too risky.
(6) Total Sales. (4) plus (5).
(8) Cost of Materials. Finestkind's inventory has an average cost of 68 percent of sales
(including a startup spoilage rate of 5 percent that has been reduced to under 1 percent
of sales), and has been calculated as 72 percent of sales to allow for the fluctuation of
dockside prices during the winter.
(9) Variable Labor. In Years One and Two, two part-time summer helpers will be
needed: a counter person at $4/hour for 16 hours/week for 10 weeks, and a fish cutter
at $6.75/hour for 20 hours/week for 16 weeks. In Year Three, two full-time counter
helpers and a full-time cutter will be needed for 10 and 16 weeks, respectively.
(10) Cost of Goods Sold. (8) plus (9).
(12) Gross Margin. (6) minus (10).
(14) Operating Expenses. These are (by and large) the fixed expenses, those that don't
vary directly with sales levels. Keeping control of operating expenses is immensely
important and easily overlooked, perhaps because so much emphasis is placed on
generating sales. A profitable business needs to control costs and maintain (or
increase) sales. Keeping control of operating expenses is immensely important and
easily overlooked, perhaps because so much emphasis is placed on generating
sales.
(15) Utilities. Prorated by agreement with the utility companies. Goes from
$165/month (Year One) to $220 to $240 in Year Three. It will probably change as new
equipment and better insulation are installed.
(16) Salaries. Year One: $950/month for Gosling and Swan Year Two: $1,200/month
for Gosling and Swan $850/month for a full-time employee Year Three: $1,500/month
for Gosling and Swan $900/month ($50/month raise) for employee Salaries are lower
than Finestkind would pay for a professional manager in order to preserve scarce
capital (they are undercapitalized, and the salaries reflect "sweat equity"). As the
business grows, they hope to take annual bonuses based on profitsafter capital needs
are met.
(17) Payroll Taxes and Benefits. 12.5 percent of (16). This is low; in many businesses
fringe benefits alone are over 25 percent of salaries. In a small business, benefits are
often skimpy.
(18) Advertising. Local newspaper and radio spots. This is an expense that Finestkind
might profitably increase.
They reason (correctly) that a consistent, though modest, campaign will be more
productive than sporadic, intensive promotions. The advertising budget is 4.4 percent
of (6) Total Sales. In Year One, a large one-time promotional blitz will be made in
April to build off-season wholesale business.
(20) Insurance. Includes liability, workers compensation, vehicle, and other normal
forms of insurance. As the business can afford it, they will add key-man disability to
the life insurance coverage. Year Two reflects the increase in workers comp and the
property insurance.
(21) Maintenance and Cleaning. Mainly suppliesa food market must meet stringent
health codes.
(22) Legal and Accounting. Retainers to an attorney and an accountant, used to
smooth out cash flow. Otherwise, occasional large bills would distort monthly income
projection figures, even though the use of these services is spread evenly over the
year.
(23) Delivery Expenses. Delivery of merchandise to restaurants and other markets.
Year Two: 2 percent of total sales; Year Three: 1.7 percent. As the wholesale business
increases, route efficiency should also increase, causing delivery expenses as a
percentage of sales to decrease.
(24) Licenses. Required by state and local authorities.
(25) Boxes, Paper, etc. Packaging supplies, which are a semifixed expense.
(26) Telephone. Needed for sales, pricing, contacting suppliers and markets.
(27) Depreciation. Five-year, straight-line on equipment (beginning April, Year One);
straight-line 19 years on building (beginning January, Year One). These are based on
the assumption that 1/5 and 1/19 respectively will be "used up" in the normal course of
doing business. Some businesses try to set this sum aside as a replacement fund.
(28) Miscellaneous. Operating expenses too small to be itemized. Some experts
suggest to clients that this category be used as a contingency allocation of 15 percent
of gross revenues for the first year, 10 percent for the second, and 5 percent for the
third, on the expectation that in a startup there will always be cost overruns. Others
suggest keeping it small, and establishing a contingency fund in some other way,
usually on the balance sheet.
(29) Rent. Applicable for three months in Year One; will be replaced by (33) Interest
(Mortgage) on the income statement. The principal payments show up on the cash
flow projections as part of mortgage payments. (The $876/ month includes both
principal and interest. Principal payments on loans do not appear as income statement
items.)
(30) Total Operating Expenses. Sum of (15) through (29).
(32) Other Expenses. Nonoperating costs are broken out to give them special
prominence.
(33) Interest (Mortgage). $75,000 mortgage for 15 years at 11.5 percent. This is a
normal term and interest rate for commercial buildings at this time. More than 15
years is rare.
(34) Interest (Term Loan). $30,000 loan for seven years at 12.25 percent. A rule of
thumb: The longer the term, the higher the risk to the bankso the higher the interest
rate to you.
(35) Interest (Credit Line). Estimated use of line: average of $7,500 outstanding for six
months a year at 13.5 percent. Lines of credit are not intended to replace permanent
capital or long-term credit needs.
 (36) Total Other Expenses. Sum of (33), (34), (35).
(38) Total Expenses. Sum of (30) and (36).
(40) Net Profit (Loss) Pretax. (12) Gross Margin minus (38) Total Expenses. On this
statement (and the other projections) a tax liability should be imputed. We left that
liability off as it will vary from one state to another and with the legal structure of your
business. Make sure to check with your accountant to arrive at a true net profit (loss)
figure. As one banker puts it, "There is no such thing as a pretax profit." As one
banker puts it, "There is no such thing as a pretax profit." Finestkind does not expect
to make much money for the first few years. This is no surprise for a business so
thinly capitalized. Even if there were no debt at all, net profit would have been only
$8,000 for the year, or less than 4 percent of sales.
This is a projection based on conservative figures. In their more optimistic moments,
Gosling and Swan hope to hold fixed costs to $4,500/month, not the $5,200 projected,
and increase sales 12.5 percent. Their budgeted net profit would be around $18,000,
not the projected loss of $4,540. If their gross margin were to continue at 30 percent of
sales, not the 27 percent projected, their net profit would be over $18,000, their "best-
case" assumption.
One item that should be mentioned again is rent. The cost of space appears on the cash
flow as mortgage ($876/ month). Another is loan amortization, which also appears on
the cash flow as term loan ($534/month). These include interest and debt retirement,
which are not expenses because they are for capital improvements that will be written
off as "depreciation expense" over the course of several years. It is important not to
double-deduct expenses: Such a practice is not only illegal but also obscures the
information about your business.
Information is the most important result of financial statements. Accurate,
timely information helps you run your business.
F. Cash Flow Projection
The cash flow projection is the most important financial planning tool available
to you. If you were limited to one financial statement (which fortunately isn't
the case), the cash flow projection would be the one to choose.
The cash flow projection can make the difference between success and
failure, and between growth and stagnation.
For a new or growing business, the cash flow projection can make the
difference between success and failure. For an ongoing business, it can make
the difference between growth and stagnation.
Your cash flow analysis will:
· show you how much cash your business will need;
· when it will be needed;
· whether you should look for equity, debt, operating profits, or sale
of fixed assets; and
· where the cash will come from.
The cash flow projection attempts to budget the cash needs of a business and
shows how cash will flow in and out of the business over a stated period of
time. Cash flows into the business from sales, collection of receivables, capital
injections, and so forth, and flows out through cash payments for expenses of
all kinds.
This financial tool emphasizes the points in your calendar when money will be
coming into and going out of your business. The advantage of knowing when
cash outlays must be made is the ability to plan for those outlays and not
be forced to resort to unexpected borrowing to meet cash needs. Illiquidity is a
killer, even for profitable businesses.
Lack of profits won't kill a business (noncash expenses such as depreciation
can make your profits look negative, while your cash flow is positive). Lack of
cash to meet your trade and other payables will.
If you project your cash flow for the near to intermediate future, you can see
the effect of a loan to your business far more clearly than from the income
statement. You may be able to find ways to finance your business operations or
minimize your credit needs to keep interest expense down. Many of the
advantages of studying the cash flow projection stem from timing: More
options are available to you, at lower costs, with less panic.
Cash is generated primarily by sales. However, not all sales are cash sales.
Perhaps your business is all cashbut if you offer any credit (charge
accounts, term payments, trade credit) to your customers, you need to have a
means of telling when those credit sales will turn into cash-in-hand. This is
blurred in the income statement but made very clear by the cash flow. Your
business may be subject to seasonal bills, and again, a cash flow makes the
liquidity problems attending such large, occasional expenses clear.
A cash flow deals only with actual cash transactions. Depreciation, a noncash
expense, does not appear on a cash flow. Loan repayments (including interest),
on the other hand, do, because they represent a cash disbursement.
After it has been developed, use your cash flow projections as a budget. If the
cash outlays for a given item increase over the amount allotted for a given
month, you should find out why and take corrective action as soon as possible.
If the figure is lower, you should also find out why. If the cash outlay is lower
than expected, it is not necessarily a good sign. Maybe a bill wasn't paid. By
reviewing the movement of your cash position you can better control your
business.
On a more positive note, the savings may tip you off to a new way of
economizing. Discrepancies between expected and actual cash flows are
indicators of opportunities as well as problems. If the sales figures don't match
the cash flow projections, look for the cause. Maybe projections were too low.
Maybe you've opened a new market or introduced a new product that can be
pushed even harder. Discrepancies between expected and actual cash flows are
indicators of opportunities as well as problems.
Use the Cash Flow Management Sketch to make sure you don't omit any
ordinary cash flow item. But be sure to add any items that are peculiar to your
business.
The level of detail you wish to provide is another judgment call. You may want
to provide much more detail than is shown in these examplesfor example, you
might benefit from breaking down your cash flow into a series of cash
flows, each representing one profit center or other business unit. This can be
particularly handy if you have more than one source of revenue or if you are a
manufacturer and need to prepare numerous bids. The accumulated information
gained by several projections can be very valuable.
Cash flow projections lend themselves to computerization. Spreadsheet
programs such as Excel are made even more valuable because you can tie in
graphic displays to your hard numbers, link together several different financial
statements, or play "what-if" with much greater speed and accuracy than was
possible when we were limited to pencils, adding machines, 13-column
accounting paper, and erasers.
Explanation for Cash Flow Projections
The receipts shown on these cash flow projections include both sales and other cash
sources to emphasize their impact on
Finestkind. The cash flow projections show how business operations affect cash flow,
so some people prefer to isolate
''Other Sources" of cash receipts in the cash reconciliation section [lines (40) (43) in
the Year One Cash Flow Projection].
References are to line numbers on the accounting sheet unless otherwise noted.
(3) Sales Receivables. Sales are cash for retail, cash or 10-day net for wholesale
accounts. If Finestkind provided longer terms, their cash flow could be significantly
altered. As it is, the cash flow assumes a conservative 10-day lag on all wholesale
sales. Because wholesale sales in September were $6,400, $2,000 (10/30 of September
wholesale sales) turns to cash in October.
The same rationale applies to the rest of the year: One-third of wholesale receipts
aren't collected until the following month.
The collection lag is not continued beyond the first quarter of Year Two. Experience
will correct the cash flow, and new figures should be calculated for Year Two on a
monthly basis for Year Two business planning.
(4) Wholesale. Note the total of $28,700 + 60,100 (Total Sales Receivable and Total
Wholesale) = $88,800, which is $1,200 less than the projected sales of $90,000 shown
on the income statement. To reconcile the difference between these figures, note that
$2,000 in cash receipts come from September of the preceding year, while $3,200 of
cash receipts are postponed for September of Year One. Sales figures are based on the
Income Projections
(5) Retail. See Income Projections on pages 73 to 76.
(6) Other Sources.
October: Inventory loan using credit line
November: Closing costs, using credit line
January: Purchase building; $30,000 from Gosling and Swan as new equity
investment, along with a $75,000 mortgage
April: Equipment and building improvements, from term loan
June: Inventory loan, credit line
(7) Total Cash Receipts. The sum of (3) + (4) + (5) + (6). Note that the total is
distorted by loans and new investment.
(8) Cash Disbursements. These are the disbursements that will be made in cash
(including checks) during the normal course of business plus any major anticipated
cash outlays.
(9) Cost of Goods. From Income Projection on page 73, line 10.
(10) Variable Labor. From Income Projection on page 73, line 9.
(11) Advertising. Budgeted at $400/month for the first year, plus an extra $600 in
October for a tourist-oriented ad campaign and an extra $4,155 in April to an agency
for the major wholesale marketing program, including implementation and execution.
(12) Insurance. Payable quarterly.
(13) Legal and Accounting. Payable quarterly.
(14) Delivery Expenses. Varies with volume of wholesale sales.
(15) Fixed Cash Disbursements. These are relatively independent of sales, so they are
allocated evenly throughout the year. See display on lines (26) through (37) for details.
If salaries fluctuate widely, break them out as a separate item with the other
disbursements. For example, if you meet your payroll every other week, two months
of the year will have three paydays rather than two, which can make those months
look alarmingly costly.
(16) Mortgage (rent). Rent through December at $550/month, mortgage payments
(principal and interest) at $876 thereafter.
(17) Term Loan. $534/month for seven years, which includes principal and interest.
(18) Line of Credit. Includes principal repayment and interest.
(19) Other Disbursements.
January: Purchase building
March: Equipment purchase and building improvements to be paid in full.
(20) Total Cash Disbursements. Sum of lines (9) through (19).
(22) Net Cash Flow. (7) minus (20).
(24) Cumulative Cash Flow. (22) + last month's (24). This sums up the net cash flow
on a monthly basis, adding the
present month's net cash flow to last month's cumulative cash flow. This is useful on a
periodic basis (monthly or quarterly). Over a longer time, it's of academic interest
only.
Some experts advise pushing a cash flow until the cumulative cash flow is consistently
positive.
(39) (43) Cash Balance Reconciliation. (40) + (41) (42) = (43). This display (for Year
One only) may be used as a quick check on how well the budget is doing. For Years
Two and Three, it is not accurate enough to be useful.
Further explanation of these cash flow items appears on the notes supporting the
income projections.
Samples of Notes and Explanations for a Cash Flow Projection
Notes and Explanations for Finestkind Seafoods, Inc.
Cash Flow Projection by Month, Year One.
Further explanation of these cash flow items appears on the notes supporting the
income projections in the previous section.
(3) Sales Receivables. Our terms are cash retail, net 10 for wholesale accounts.
Assumes 1/3 wholesale will turn to cash in the following month.
(4) Wholesale. See income projections for derivation of these figures.
(5) Retail. See income projections for derivation.
(6) Other Sources. October, November credit line, $7,500; January $75,000 mortgage
and $30,000 new equity from Swan and Gosling; April term loan for improvements
and equipment, $30,000; June inventory buildup, $15,000 from credit line.
(9) Cost of Goods. 72 percent of current month sales [line (6) of income projections].
(10) Variable Labor. Part-time help from May to September to handle extra weekend
tourist trade and extra seafood preparation.
(11) Advertising. $1,000 initial burst, $400/month thereafter. Add $4,155 to April for
wholesale marketing program.
(16) Mortgage. $550/month rent to December, mortgage payments January on. Terms:
$75,000, 15 year, 11.5 percent.
(17) Term Loan. $534/month payments scheduled for term loan. Terms: $30,000, 7
year, 12.25 percent.
Cash Flow Projection by Quarters for Years Two and Three
(3) Sales Receivables. Turn from September, Year One. Because this is a quarterly
summary, no further allowance will be made for
receivables turn.
(6) Other Sources. $12,000 for one month on line of credit third quarter, $15,000 for
nine weeks on line of credit fourth quarter to meet
inventory needs.
(15) Fixed Cash Disbursements. Could have included mortgage and term loan
payments, but to preserve parity with detail of Year One, loan payments are displayed
separately.
(24) Cumulative Cash Flow. Subtract $1,237 from net cash flow, first quarter Year
Two, to reflect the total cumulative cash flow of Year One: ($1,237).
(26) Fixed Cash Disbursements. From income projections.
You should notice that only the most important cash flow items are annotated. Such
annotation helps you remember your thinking at some later timeand helps avoid
repeating errors. It also makes your projections much more believable because the
numbers will be seen to have more foundation than guesswork.
Application of Funds Statement
This is a handy addition to your cash flow analysis. Your banker may be interested in
a source and applications statement, which is a slightly more formal versionask your
CPAbut this is handy when you are looking at ways of financing major acquisitions.