6 Elements of a Successful Financial Plan for a Small Business

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the most important element of a business plan's financial plan is the cash budget which shows

Many small businesses lack a full financial plan, even though evidence shows that it is essential to the long-term success and growth of any business. 

For example, a study in the New England Journal of Entrepreneurship found that entrepreneurs with a business plan are more successful than those without one. If you’re not sure how to get started, read on to learn the six key elements of a successful small business financial plan.

What is a business financial plan, and why is it important? 

A business financial plan is an overview of a business’s financial situation and a forward-looking projection for growth. A business financial plan typically has six parts: sales forecasting, expense outlay, a statement of financial position, a cash flow projection, a break-even analysis and an operations plan.

A good financial plan helps you manage cash flow and accounts for months when revenue might be lower than expected. It also helps you budget for daily and monthly expenses and plan for taxes each year.

Importantly, a financial plan helps you focus on the long-term growth of your business. That way, you don’t get so caught up in the day-to-day activities that you lose sight of your goals. Focusing on the long-term vision helps you prioritize your financial resources. 

Financial plans should be created annually at the beginning of the fiscal year as a collaboration of finance, HR, sales and operations leaders.

The 6 components of a successful financial plan for business

1. sales forecasting.

You should have an estimate of your sales revenue for every month, quarter and year. Identifying any patterns in your sales cycles helps you better understand your business, and this knowledge is invaluable as you plan marketing initiatives and growth strategies . 

For instance, a seasonal business can aim to improve sales in the off-season to eventually become a year-round venture. Another business might become better prepared by understanding how upticks and downturns in business relate to factors such as the weather or the economy.

Sales forecasting is also the foundation for setting company growth goals. For instance, you could aim to improve your sales by 10 percent over each previous period.

2. Expense outlay

A full expense plan includes regular expenses, expected future expenses and associated expenses. Regular expenses are the current ongoing costs of your business, including operational costs such as rent, utilities and payroll. 

Regular expenses relate to standard business activities that occur each year, such as conference attendance, advertising and marketing, and the office holiday party. It’s a good idea to distinguish essential expenses from expenses that can be reduced or eliminated if needed.

Expected future expenses are known future costs, such as tax rate increases, minimum wage increases or maintenance needs. Generally, a part of the budget should also be allocated to unexpected future expenses, such as damage to your business caused by fire, flood or other unexpected disasters. Planning for future expenses ensures your business is financially prepared via budget reduction, increases in sales or financial assistance.

Associated expenses are the estimated costs of various initiatives, such as acquiring and training new hires, opening a new store or expanding delivery to a new territory. An accurate estimate of associated expenses helps you properly manage growth and prevents your business from exceeding your cost capabilities. 

As with expected future expenses, understanding how much capital is required to accomplish various growth goals helps you make the right decision about financing options.

3. Statement of financial position (assets and liabilities)

Assets and liabilities are the foundation of your business’s balance sheet and the primary determinants of your business’s net worth. Tracking both allows you to maximize your business’s potential value. 

Small businesses frequently undervalue their assets (such as machinery, property or inventory) and fail to properly account for outstanding bills. Your balance sheet offers a more complete view of your business’s health than a profit-and-loss statement or a cash flow report. 

A profit-and-loss statement shows how the business performed over a specific time period, while a balance sheet shows the financial position of the business on any given day.

4. Cash flow projection

You should be able to predict your cash flow on a monthly, quarterly and annual basis. Projecting cash flow for the full year allows you to get ahead of any financial struggles or challenges. 

It can also help you identify a cash flow problem before it hurts your business. You can set the most appropriate payment terms, such as how much you charge upfront or how many days after invoicing you expect payment .

A cash flow projection gives you a clear look at how much money is expected to be left at the end of each month so you can plan a possible expansion or other investments. It also helps you budget, such as by spending less one month for the anticipated cash needs of another month.

5. Break-even analysis

A break-even analysis evaluates fixed costs relative to the profit earned by each additional unit you produce and sell. This analysis is essential to understanding your business’s revenue and potential costs versus profits of expansion or growth of your output. 

Having your expenses fully fleshed out, as described above, makes your break-even analysis more accurate and useful. A break-even analysis is also the best way to determine your pricing.

In addition, a break-even analysis can tell you how many units you need to sell at various prices to cover your costs. You should aim to set a price that gives you a comfortable margin over your expenses while allowing your business to remain competitive.

6. Operations plan

To run your business as efficiently as possible, craft a detailed overview of your operational needs. Understanding what roles are required for you to operate your business at various volumes of output, how much output or work each employee can handle, and the costs of each stage of your supply chain will aid you in making informed decisions for your business’s growth and efficiency.

It’s important to tightly control expenses, such as payroll or supply chain costs, relative to growth. An operations plan can also make it easier to determine if there is room to optimize your operations or supply chain via automation, new technology or superior supply chain vendors.

For this reason, it is imperative for a business owner to conduct due diligence and become knowledgeable about merchant services before acquiring an account. Once the owner signs a contract, it cannot be changed, unless the business owner breaks the contract and acquires a new account with a new merchant services provider. 

Tips on writing a business financial plan

Business owners should create a financial plan annually to ensure they have a clear and accurate picture of their business’s finances and a realistic view for future growth or expansion. A financial plan helps the business’s leaders make informed decisions about purchases, debt, hiring, expense control and overall operations for the year ahead. 

A business financial plan is essential if a business owner is looking to sell their business, attract investors or enter a partnership with another business. Here are some tips for writing a business financial plan.

Review the previous year’s plan.

It’s a good idea to compare the previous year’s plan against actual performance and finances to see how accurate the previous plan and forecast were. That way, you can address any discrepancies or overlooked elements in next year’s plan.

Collaborate with other departments.

A business owner or other individual charged with creating the business financial plan should collaborate with the finance department, human resources department, sales team , operations leader, and those in charge of machinery, vehicles or other significant business tools. 

Each division should provide the necessary data about projections, value and expenses. All of these elements come together to create a comprehensive financial picture of the business.

Use available resources.

The Small Business Administration (SBA) and SCORE, the SBA’s nonprofit partner, are two excellent resources for learning about financial plans. Both can teach you the elements of a comprehensive plan and how best to work with the different departments in your business to collect the necessary information. Many websites, including business.com , and service providers, such as Intuit, offer advice on this matter. 

If you have questions or encounter challenges while creating your business financial plan, seek advice from your accountant or other small business owners in your network. Your city or state has a small business office that you can contact for help.

Several small business organizations offer free financial plan templates for small business owners. You can find templates for the financial plan components listed here via SCORE .

Business financial plan templates

Many business organizations offer free information that small business owners can use to create their financial plan. For example, the SBA’s Learning Platform offers a course on how to create a business plan. It also offers worksheets and templates to help you get started. You can seek additional help and more personalized service from your local office.

SCORE is the largest volunteer network of business mentors. It began as a group of retired executives (SCORE stands for “Service Corps of Retired Executives”) but has expanded to include business owners and executives from many industries. Advice is free and available online, and there are SBA district offices in every U.S. state. In addition to participating in group or at-home learning, you can be paired with a mentor for individualized help. 

SCORE offers templates and tips for creating a small business financial plan. SCORE is an excellent resource because it addresses different levels of experience and offers individualized help.

Other templates can be found in Microsoft Office’s template library, QuickBooks’ online resources, Shopify’s blog and other places. You can also ask your accountant for guidance, since many accountants provide financial planning services in addition to their usual tax services.

Diana Wertz contributed to the writing and research in this article.


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What Is a Cash Budget?

How a cash budget works.

  • Short-Term vs. Long-Term Budgets

Special Considerations

  • Cash Budget FAQs
  • Corporate Finance

Cash Budget Definition: Parts and How to Create One

the most important element of a business plan's financial plan is the cash budget which shows

A cash budget is an estimation of the cash flows of a business over a specific period of time. This could be for a weekly, monthly, quarterly, or annual budget. This budget is used to assess whether the entity has sufficient cash to continue operating over the given time frame. The cash budget provides a company insight into its cash needs (and any surplus) and helps to determine an efficient allocation of cash.

Key Takeaways

  • A cash budget is a company's estimation of cash inflows and outflows over a specific period of time, which can be weekly, monthly, quarterly, or annually.
  • A company will use a cash budget to determine whether it has sufficient cash to continue operating over the given time frame.
  • A cash budget will also provide a company with insight into its cash needs and any surpluses, which help it determine if the business is using cash effectively.
  • Cash budgets can be viewed as short-term cash budgets, usually, a time frame of weeks to months, or long-term cash budgets, which are viewed as years.
  • A company must manage its sales and expenses to reach optimal cash flow.

Investopedia / Ellen Lindner

Companies use sales and production forecasts to create a cash budget, along with assumptions about necessary spending and accounts receivable collections. A cash budget is necessary to assess whether a company will have enough cash to continue operations. If a company does not have enough liquidity to operate, it must raise more capital by issuing stock or taking on more debt.

A cash roll forward computes the cash inflows and outflows for a month, and it uses the ending balance as the beginning balance for the following month. This process allows the company to forecast cash needs throughout the year, and changes to the roll forward to adjust the cash balances for all future months.

Short-Term Cash Budget vs. Long-Term Cash Budget

Cash budgets are usually viewed in either the short-term or the long-term. Short-term cash budgets focus on the cash requirements needed for the next week or months whereas long-term cash budget focuses on cash needs for the next year to several years.

Short-term cash budgets will look at items such as utility bills, rent, payroll , payments to suppliers, other operating expenses, and investments. Long-term cash budgets focus on quarterly and annual tax payments, capital expenditure projects, and long-term investments. Long-term cash budgets usually require more strategic planning and detailed analysis as they require cash to be tied up for a longer period of time.

It's also prudent to budget cash requirements for any emergencies or unexpected needs for cash that may arise, particularly if the business is new and all aspects of operations are not fully realized.

At the end of each budgetary term, the ending balance of the cash budget is carried forward to the next term's cash budget.

Managing a cash budget also comes down to carefully managing the growth of the business. For example, all businesses want to sell more and grow, but it is crucial to do so in a sustainable way.

For example, a company may implement a marketing strategy to boost brand awareness and sell more products. The ad campaign is successful and demand for the product takes off. If the company isn't prepared to meet this increase in demand, for example, it may not have enough machinery to produce more goods, enough employees to conduct quality checks, or enough suppliers to order the required raw materials , then it could have many unhappy customers.

The company may want to build out all these aspects to meet demand, but if it doesn't have enough cash or financing to be able to do so, then it cannot. Therefore, it is important to manage sales and expenses to reach an optimal level of cash flow.

Example of a Cash Budget

For example, let's assume ABC Clothing manufactures shoes, and it estimates $300,000 in sales for the months of June, July, and August. At a retail price of $60 per pair, the company estimates sales of 5,000 pairs of shoes each month. ABC forecasts that 80% of the cash from these sales will be collected in the month following the sale and the other 20% will be collected two months after the sale. The beginning cash balance for July is forecast to be $20,000, and the cash budget assumes 80% of the June sales will be collected in July, which equals $240,000 (80% of $300,000). ABC also projects $100,000 in cash inflows from sales made earlier in the year.

On the expense side, ABC must also calculate the production costs required to produce the shoes and meet customer demand. The company expects 1,000 pairs of shoes to be in the beginning inventory, which means a minimum of 4,000 pairs must be produced in July. If the production cost is $50 per pair, ABC spends $200,000 ($50 x 4,000) in the month of July on the cost of goods sold , which is the manufacturing cost. The company also expects to pay $60,000 in costs not directly related to production, such as insurance.

ABC computes the cash inflows by adding the receivables collected during July to the beginning balance, which is $360,000 ($20,000 July beginning balance + $240,000 in June sales collected in July + $100,000 in cash inflows from earlier sales). The company then subtracts the cash needed to pay for production and other expenses. That total is $260,000 ($200,000 in cost of goods sold + $60,000 in other costs). ABC’s July ending cash balance is $100,000, or $360,000 in cash inflows minus $260,000 in cash outflows.

What Are the Steps of Creating a Cash Budget?

The first step to creating a cash budget is to establish reliable forecasts of the company's cash inflows and outflows. Some of these flows will be predictable, such as rent and payroll costs. Others, like sales figures, will tend to be more variable. Once these figures have been estimated, it is possible to prepare a cash budget that accounts for all expected inflows and outflows.

What Expenses Should Be Included in a Cash Budget?

A cash budget should take into account expected cash flows, such as revenue, as well as operational outflows due to returns, payroll, rent, utilities, supplies, and other costs of running the business.

How Do You Prepare a Cash Budget?

This will depend on the time frame for which the budget is being prepared. A short-term cash budget of a few weeks will only account for day-to-day expenses related to funding and supplying a company's operations, while a cash budget for a quarter or longer might also account for larger expenses like equipment, capital investment, and corporate taxes. In each case, any remaining cash surplus at the end of one budget period will be carried on to the beginning of the next.

OpenStax. " Principles of Accounting, Volume 2 ," Page 366 of PDF.

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Money Talks → Small Business

The 7 Key Elements of a Financial Plan

October 6, 2020

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What makes up a financial plan?

  • #1: Profit and loss statement (P&L)

#2: Operating income

#3: net income, #4: cash flow statement, #5: balance sheet, #6: sales or revenue projections, #7: business ratios and break-even analysis, subscribe to greenlight by thimble..

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Creating a financial plan for your small business can seem challenging and intimidating at first; however, once you educate yourself and understand the different components of a plan and how they fit together, it’s quite simple! Essentially, a financial plan is an overview of your small business’s current finances and future growth projections. With a financial plan, you can fully understand all of your finances and how they interact, set achievable goals, better adapt to potential roadblocks, and begin developing a strategy for growing your business that is grounded in your financial statements. Financial plans are key to running a successful business, receiving funding (through obtaining investors and securing loans), and planning for the future.

Your financial plan should include seven key elements (which we will cover in more detail below): your profit and loss statement, operating income, cash flow statement, balance sheet, revenue projection, personnel plan, as well as your business ratios and break-even analysis.

#1: Profit and loss statement (P&L)

The profit and loss statement, otherwise known as an income statement, shows how your small business will make a profit or face a loss over a defined period of time (typically three months), by examining your revenue and expenses.

  • Revenue, not to be confused with profit, is the total amount of income your business generates from normal business activities. An expense is the money spent in order to generate revenue, and covers everything from paying your employees, utility bills, and the cost of goods sold (also called COGS).
  • Every business has operating expenses which are not directly tied with sales. Typically, these expenses are fixed.
  • The cost of goods sold fluctuates based on your inventory and sales. These are considered variable costs.

Net profit or loss, also known as your gross margin, is calculated by subtracting the total expenses from total revenue. These three elements (revenue, expenses, and gross margin) show how your business makes or loses money and is essential to creating your business model.

Operating Income = Gross margin − Operating expenses

Using your Profit and Loss Statement, you can calculate your operating income. Subtract your operating expenses from the gross margin. Typically, the operating income is referred to as your EBITDA: earnings before interest, taxes, depreciation and amortization. This number reflects how much money you made in profit before you consider accounting and tax obligations and is your gross profit.

Net income = Operating income – Interest + Taxes + Depreciation + Amortization

Your net income is your bottom line, and different from your operating income. To calculate your net income, you will need to know your operating income, as net income is equal to your operating income minus your interest, taxes, depreciation, and amortization expenses. Net is important because it is the simplest indicator of whether or not your business is profitable.

Your cash flow statement reflects how much cash your business earned and paid out, and shows how you calculate your ending cash balance (usually, this is calculated on a per month basis). You can use your cash flow statement to better understand how much cash your business has on hand, where the cash is coming from, what you are spending it on, and how frequently you are spending it. The cash flow statement provides a critical insight into your business, as you can be profitable but not keep enough cash on hand to execute daily or monthly operations. On the other hand, you can be unprofitable and operating at a loss but still have cash in your business’s bank account. To further educate yourself on your cash flow statement, it is important to understand cash versus accrual accounting.

  • When using the cash method, you account for your sales and expenses in the period in which they occur. The cash method provides a snapshot of your current finances. Many small businesses opt for this method because of its simplicity, and because taxes do not have to be paid until money is received.
  • When using the accrual method, you account for your revenue when it is earned and expenses when they are billed, not paid. By matching expenses to sales, you get a better overall picture of how income and expenses relate to one another directly in the same time period. For example, if you wait to pay an expense until a month after the sale has been made, your second month can look less profitable than the first month, when in reality that is not necessarily the case. The accrual method is favored by accountants as it provides a more accurate view of your finances. Overall, accrual provides the most detailed and sophisticated look into how your business handles cash and allows you to make more informed decisions, as long as the complexity of the model (and the lack of a simple cash-flow oriented point of view), works for you.

Assets = Liability + Equity

Your balance sheet provides you with a look at how your business is doing at a particular moment, as it tells you the amount of cash you have on hand, how much money you are owed, and how much you owe. The balance sheet is based off of one simple equation: your assets equal your liabilities plus your equity. Let’s take a closer look into what these three parts of the equation entail:

  • Assets: These are your accounts receivable (money owed to you, typically by customers), your money in the bank, inventory, etc.
  • Liabilities: These are your accounts payable (money that you owe others), credit card balances that you need to pay off, loan repayments, etc.
  • Retained Earnings: The amount of net income left over for your business after it has paid out dividends to your shareholders.

Equity: The value attributed to a business. Equity can also include shares owned by investors in your business, retained earnings (these do not apply to you if you are the only owner of your business; retained earnings equal zero if they are not rolled over or retained as they are in a large corporation), stock proceeds, etc.

Importantly, your assets need to always equal your liabilities plus your equity. If these two columns do not equal each other, you have accounted incorrectly and should review your balance sheet to make sure everything is in the correct column and accurately accounted for.

This section shows what you think you will sell in a given period of time. To calculate your sales projections, you should create a forecast that is in line with the sales number in your P&L Statement. You do not want to under-predict how much you will sell, but you also do not want to make an over enthusiastic claim either. In short, you want your sales projections to be realistic for your business and informed by your past performance. Sales projections should be an ongoing part of your financial plan; pay attention to them and adjust them accordingly so you can ensure an appropriate and accurate growth plan moving forward. With your sales projections, you will also want to include the cost of goods sold (remember COGS). By including COGS, you will be able to calculate your projected gross margin and make adjustments to your business operations accordingly.

In order to create your business ratios, you need to utilize the figures on your P&L Statement, Cash Flow Statement, and Balance Sheet. The three ratios most used by business owners and requested by banks are typically:

  • Gross margin: Gross margin = net sales revenue – cost of goods sold
  • Return on investment (ROI): The ratio between net profit and cost of investment; a high ROI means that you gained significantly compared to how much you paid for your investment. ROI is used to evaluate the efficiency of an investment or compare multiple investments.
  • Debt-to-equity: This is calculated by dividing your liabilities by total shareholder equity (for small businesses, there is usually one owner who holds all of the equity) and is used by banks to evaluate your business’s financial leverage. The higher your ratio, the riskier your business is viewed. To calculate your debt-to-equity ratio, use your Balance Sheet, and you can modify this ratio to focus on long term or short-term debt.

Finally, your break-even analysis will allow you to calculate how much you need to sell in order to cover all of your expenses and keep your doors open without making a profit. While it is not ideal for your business to only operate at its breaking-even point (since you want to be operating at a profit), breaking-even is preferable to operating at a loss and is a figure you should know as a small business owner. To calculate your break-even point, you need to divide your fixed costs by your contribution margin (your contribution margin is your sales price per unit minus variable cost per unit).

Now that you understand the importance and key parts of a financial statement, you can get a better handle on your small business and thoroughly understand every part of how your business is operating. Remember to keep your financial plan up to date and make sure it is accurate in order to run your business as profitably and strategically as possible.

Written on October 6, 2020

Our editorial content is intended for informational purposes only and is not written by a licensed insurance agent. Terms and conditions for rate and coverage may vary by class of business and state.

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How to Write a Small Business Financial Plan

Stairs leading up to a dollar sign. Represents creating a financial plan to achieve profitability.

Noah Parsons

3 min. read

Updated January 3, 2024

Creating a financial plan is often the most intimidating part of writing a business plan. It’s also one of the most vital. Businesses with well-structured and accurate financial statements in place are more prepared to pitch to investors, receive funding, and achieve long-term success.

Thankfully, you don’t need an accounting degree to successfully put your budget and forecasts together. Here is everything you need to include in your financial plan along with optional performance metrics, specifics for funding, and free templates.

  • Key components of a financial plan

A sound financial plan is made up of six key components that help you easily track and forecast your business financials. They include your:

Sales forecast

What do you expect to sell in a given period? Segment and organize your sales projections with a personalized sales forecast based on your business type.

Subscription sales forecast

While not too different from traditional sales forecasts—there are a few specific terms and calculations you’ll need to know when forecasting sales for a subscription-based business.

Expense budget

Create, review, and revise your expense budget to keep your business on track and more easily predict future expenses.

How to forecast personnel costs

How much do your current, and future, employees’ pay, taxes, and benefits cost your business? Find out by forecasting your personnel costs.

Profit and loss forecast

Track how you make money and how much you spend by listing all of your revenue streams and expenses in your profit and loss statement.

Cash flow forecast

Manage and create projections for the inflow and outflow of cash by building a cash flow statement and forecast.

Balance sheet

Need a snapshot of your business’s financial position? Keep an eye on your assets, liabilities, and equity within the balance sheet.

What to include if you plan to pursue funding

Do you plan to pursue any form of funding or financing? If the answer is yes, then there are a few additional pieces of information that you’ll need to include as part of your financial plan.

Highlight any risks and assumptions

Every entrepreneur takes risks with the biggest being assumptions and guesses about the future. Just be sure to track and address these unknowns in your plan early on.

Plan your exit strategy

Investors will want to know your long-term plans as a business owner. While you don’t need to have all the details, it’s worth taking the time to think through how you eventually plan to leave your business.

  • Financial ratios and metrics

With all of your financial statements and forecasts in place, you have all the numbers needed to calculate insightful financial ratios. While these metrics are entirely optional to include in your plan, having them easily accessible can be valuable for tracking your performance and overall financial situation.

Common business ratios

Unsure of which business ratios you should be using? Check out this list of key financial ratios that bankers, financial analysts, and investors will want to see.

Break-even analysis

Do you want to know when you’ll become profitable? Find out how much you need to sell to offset your production costs by conducting a break-even analysis.

How to calculate ROI

How much could a business decision be worth? Evaluate the efficiency or profitability by calculating the potential return on investment (ROI).

  • Financial plan templates and tools

Download and use these free financial templates and calculators to easily create your own financial plan.

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Sales forecast template

Download a free detailed sales forecast spreadsheet, with built-in formulas, to easily estimate your first full year of monthly sales.

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Content Author: Noah Parsons

Noah is the COO at Palo Alto Software, makers of the online business plan app LivePlan. He started his career at Yahoo! and then helped start the user review site Epinions.com. From there he started a software distribution business in the UK before coming to Palo Alto Software to run the marketing and product teams.

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Elements of a Business Plan There are seven major sections of a business plan, and each one is a complex document. Read this selection from our business plan tutorial to fully understand these components.

Now that you understand why you need a business plan and you've spent some time doing your homework gathering the information you need to create one, it's time to roll up your sleeves and get everything down on paper. The following pages will describe in detail the seven essential sections of a business plan: what you should include, what you shouldn't include, how to work the numbers and additional resources you can turn to for help. With that in mind, jump right in.

Executive Summary

Within the overall outline of the business plan, the executive summary will follow the title page. The summary should tell the reader what you want. This is very important. All too often, what the business owner desires is buried on page eight. Clearly state what you're asking for in the summary.

The statement should be kept short and businesslike, probably no more than half a page. It could be longer, depending on how complicated the use of funds may be, but the summary of a business plan, like the summary of a loan application, is generally no longer than one page. Within that space, you'll need to provide a synopsis of your entire business plan. Key elements that should be included are:

  • Business concept. Describes the business, its product and the market it will serve. It should point out just exactly what will be sold, to whom and why the business will hold a competitive advantage.
  • Financial features. Highlights the important financial points of the business including sales, profits, cash flows and return on investment.
  • Financial requirements. Clearly states the capital needed to start the business and to expand. It should detail how the capital will be used, and the equity, if any, that will be provided for funding. If the loan for initial capital will be based on security instead of equity, you should also specify the source of collateral.
  • Current business position. Furnishes relevant information about the company, its legal form of operation, when it was formed, the principal owners and key personnel.
  • Major achievements. Details any developments within the company that are essential to the success of the business. Major achievements include items like patents, prototypes, location of a facility, any crucial contracts that need to be in place for product development, or results from any test marketing that has been conducted.

When writing your statement of purpose, don't waste words. If the statement of purpose is eight pages, nobody's going to read it because it'll be very clear that the business, no matter what its merits, won't be a good investment because the principals are indecisive and don't really know what they want. Make it easy for the reader to realize at first glance both your needs and capabilities.

Business Description

Tell them all about it.

The business description usually begins with a short description of the industry. When describing the industry, discuss the present outlook as well as future possibilities. You should also provide information on all the various markets within the industry, including any new products or developments that will benefit or adversely affect your business. Base all of your observations on reliable data and be sure to footnote sources of information as appropriate. This is important if you're seeking funding; the investor will want to know just how dependable your information is, and won't risk money on assumptions or conjecture.

When describing your business, the first thing you need to concentrate on is its structure. By structure we mean the type of operation, i.e. wholesale, retail, food service, manufacturing or service-oriented. Also state whether the business is new or already established.

In addition to structure, legal form should be reiterated once again. Detail whether the business is a sole proprietorship, partnership or corporation, who its principals are, and what they will bring to the business.

You should also mention who you will sell to, how the product will be distributed, and the business's support systems. Support may come in the form of advertising, promotions and customer service.

Once you've described the business, you need to describe the products or services you intend to market. The product description statement should be complete enough to give the reader a clear idea of your intentions. You may want to emphasize any unique features or variations from concepts that can typically be found in the industry.

Be specific in showing how you will give your business a competitive edge. For example, your business will be better because you will supply a full line of products; competitor A doesn't have a full line. You're going to provide service after the sale; competitor B doesn't support anything he sells. Your merchandise will be of higher quality. You'll give a money-back guarantee. Competitor C has the reputation for selling the best French fries in town; you're going to sell the best Thousand Island dressing.

How Will I Profit?

Now you must be a classic capitalist and ask yourself, "How can I turn a buck? And why do I think I can make a profit that way?" Answer that question for yourself, and then convey that answer to others in the business concept section. You don't have to write 25 pages on why your business will be profitable. Just explain the factors you think will make it successful, like the following: it's a well-organized business, it will have state-of-the-art equipment, its location is exceptional, the market is ready for it, and it's a dynamite product at a fair price.

If you're using your business plan as a document for financial purposes, explain why the added equity or debt money is going to make your business more profitable.

Show how you will expand your business or be able to create something by using that money.

Show why your business is going to be profitable. A potential lender is going to want to know how successful you're going to be in this particular business. Factors that support your claims for success can be mentioned briefly; they will be detailed later. Give the reader an idea of the experience of the other key people in the business. They'll want to know what suppliers or experts you've spoken to about your business and their response to your idea. They may even ask you to clarify your choice of location or reasons for selling this particular product.

The business description can be a few paragraphs in length to a few pages, depending on the complexity of your plan. If your plan isn't too complicated, keep your business description short, describing the industry in one paragraph, the product in another, and the business and its success factors in three or four paragraphs that will end the statement.

While you may need to have a lengthy business description in some cases, it's our opinion that a short statement conveys the required information in a much more effective manner. It doesn't attempt to hold the reader's attention for an extended period of time, and this is important if you're presenting to a potential investor who will have other plans he or she will need to read as well. If the business description is long and drawn-out, you'll lose the reader's attention, and possibly any chance of receiving the necessary funding for the project.

Market Strategies

Define your market.

Market strategies are the result of a meticulous market analysis. A market analysis forces the entrepreneur to become familiar with all aspects of the market so that the target market can be defined and the company can be positioned in order to garner its share of sales. A market analysis also enables the entrepreneur to establish pricing, distribution and promotional strategies that will allow the company to become profitable within a competitive environment. In addition, it provides an indication of the growth potential within the industry, and this will allow you to develop your own estimates for the future of your business.

Begin your market analysis by defining the market in terms of size, structure, growth prospects, trends and sales potential.

The total aggregate sales of your competitors will provide you with a fairly accurate estimate of the total potential market. Once the size of the market has been determined, the next step is to define the target market. The target market narrows down the total market by concentrating on segmentation factors that will determine the total addressable market--the total number of users within the sphere of the business's influence. The segmentation factors can be geographic, customer attributes or product-oriented.

For instance, if the distribution of your product is confined to a specific geographic area, then you want to further define the target market to reflect the number of users or sales of that product within that geographic segment.

Once the target market has been detailed, it needs to be further defined to determine the total feasible market. This can be done in several ways, but most professional planners will delineate the feasible market by concentrating on product segmentation factors that may produce gaps within the market. In the case of a microbrewery that plans to brew a premium lager beer, the total feasible market could be defined by determining how many drinkers of premium pilsner beers there are in the target market.

It's important to understand that the total feasible market is the portion of the market that can be captured provided every condition within the environment is perfect and there is very little competition. In most industries this is simply not the case. There are other factors that will affect the share of the feasible market a business can reasonably obtain. These factors are usually tied to the structure of the industry, the impact of competition, strategies for market penetration and continued growth, and the amount of capital the business is willing to spend in order to increase its market share.

Projecting Market Share

Arriving at a projection of the market share for a business plan is very much a subjective estimate. It's based on not only an analysis of the market but on highly targeted and competitive distribution, pricing and promotional strategies. For instance, even though there may be a sizable number of premium pilsner drinkers to form the total feasible market, you need to be able to reach them through your distribution network at a price point that's competitive, and then you have to let them know it's available and where they can buy it. How effectively you can achieve your distribution, pricing and promotional goals determines the extent to which you will be able to garner market share.

For a business plan, you must be able to estimate market share for the time period the plan will cover. In order to project market share over the time frame of the business plan, you'll need to consider two factors:

  • Industry growth which will increase the total number of users. Most projections utilize a minimum of two growth models by defining different industry sales scenarios. The industry sales scenarios should be based on leading indicators of industry sales, which will most likely include industry sales, industry segment sales, demographic data and historical precedence.
  • Conversion of users from the total feasible market. This is based on a sales cycle similar to a product life cycle where you have five distinct stages: early pioneer users, early users, early majority users, late majority users and late users. Using conversion rates, market growth will continue to increase your market share during the period from early pioneers to early majority users, level off through late majority users, and decline with late users.

Defining the market is but one step in your analysis. With the information you've gained through market research, you need to develop strategies that will allow you to fulfill your objectives.

Positioning Your Business

When discussing market strategy, it's inevitable that positioning will be brought up. A company's positioning strategy is affected by a number of variables that are closely tied to the motivations and requirements of target customers within as well as the actions of primary competitors.

Before a product can be positioned, you need to answer several strategic questions such as:

  • How are your competitors positioning themselves?
  • What specific attributes does your product have that your competitors' don't?
  • What customer needs does your product fulfill?

Once you've answered your strategic questions based on research of the market, you can then begin to develop your positioning strategy and illustrate that in your business plan. A positioning statement for a business plan doesn't have to be long or elaborate. It should merely point out exactly how you want your product perceived by both customers and the competition.

How you price your product is important because it will have a direct effect on the success of your business. Though pricing strategy and computations can be complex, the basic rules of pricing are straightforward:

  • All prices must cover costs.
  • The best and most effective way of lowering your sales prices is to lower costs.
  • Your prices must reflect the dynamics of cost, demand, changes in the market and response to your competition.
  • Prices must be established to assure sales. Don't price against a competitive operation alone. Rather, price to sell.
  • Product utility, longevity, maintenance and end use must be judged continually, and target prices adjusted accordingly.
  • Prices must be set to preserve order in the marketplace.

There are many methods of establishing prices available to you:

  • Cost-plus pricing. Used mainly by manufacturers, cost-plus pricing assures that all costs, both fixed and variable, are covered and the desired profit percentage is attained.
  • Demand pricing. Used by companies that sell their product through a variety of sources at differing prices based on demand.
  • Competitive pricing. Used by companies that are entering a market where there is already an established price and it is difficult to differentiate one product from another.
  • Markup pricing. Used mainly by retailers, markup pricing is calculated by adding your desired profit to the cost of the product. Each method listed above has its strengths and weaknesses.
  • Distribution

Distribution includes the entire process of moving the product from the factory to the end user. The type of distribution network you choose will depend upon the industry and the size of the market. A good way to make your decision is to analyze your competitors to determine the channels they are using, then decide whether to use the same type of channel or an alternative that may provide you with a strategic advantage.

Some of the more common distribution channels include:

  • Direct sales. The most effective distribution channel is to sell directly to the end-user.
  • OEM (original equipment manufacturer) sales. When your product is sold to the OEM, it is incorporated into their finished product and it is distributed to the end user.
  • Manufacturer's representatives. One of the best ways to distribute a product, manufacturer's reps, as they are known, are salespeople who operate out of agencies that handle an assortment of complementary products and divide their selling time among them.
  • Wholesale distributors. Using this channel, a manufacturer sells to a wholesaler, who in turn sells it to a retailer or other agent for further distribution through the channel until it reaches the end user.
  • Brokers. Third-party distributors who often buy directly from the distributor or wholesaler and sell to retailers or end users.
  • Retail distributors. Distributing a product through this channel is important if the end user of your product is the general consuming public.
  • Direct Mail. Selling to the end user using a direct mail campaign.

As we've mentioned already, the distribution strategy you choose for your product will be based on several factors that include the channels being used by your competition, your pricing strategy and your own internal resources.

Promotion Plan

With a distribution strategy formed, you must develop a promotion plan. The promotion strategy in its most basic form is the controlled distribution of communication designed to sell your product or service. In order to accomplish this, the promotion strategy encompasses every marketing tool utilized in the communication effort. This includes:

  • Advertising. Includes the advertising budget, creative message(s), and at least the first quarter's media schedule.
  • Packaging. Provides a description of the packaging strategy. If available, mockups of any labels, trademarks or service marks should be included.
  • Public relations. A complete account of the publicity strategy including a list of media that will be approached as well as a schedule of planned events.
  • Sales promotions. Establishes the strategies used to support the sales message. This includes a description of collateral marketing material as well as a schedule of planned promotional activities such as special sales, coupons, contests and premium awards.
  • Personal sales. An outline of the sales strategy including pricing procedures, returns and adjustment rules, sales presentation methods, lead generation, customer service policies, salesperson compensation, and salesperson market responsibilities.

Sales Potential

Once the market has been researched and analyzed, conclusions need to be developed that will supply a quantitative outlook concerning the potential of the business. The first financial projection within the business plan must be formed utilizing the information drawn from defining the market, positioning the product, pricing, distribution, and strategies for sales. The sales or revenue model charts the potential for the product, as well as the business, over a set period of time. Most business plans will project revenue for up to three years, although five-year projections are becoming increasingly popular among lenders.

When developing the revenue model for the business plan, the equation used to project sales is fairly simple. It consists of the total number of customers and the average revenue from each customer. In the equation, "T" represents the total number of people, "A" represents the average revenue per customer, and "S" represents the sales projection. The equation for projecting sales is: (T)(A) = S

Using this equation, the annual sales for each year projected within the business plan can be developed. Of course, there are other factors that you'll need to evaluate from the revenue model. Since the revenue model is a table illustrating the source for all income, every segment of the target market that is treated differently must be accounted for. In order to determine any differences, the various strategies utilized in order to sell the product have to be considered. As we've already mentioned, those strategies include distribution, pricing and promotion.

Competitive Analysis

Identify and analyze your competition.

The competitive analysis is a statement of the business strategy and how it relates to the competition. The purpose of the competitive analysis is to determine the strengths and weaknesses of the competitors within your market, strategies that will provide you with a distinct advantage, the barriers that can be developed in order to prevent competition from entering your market, and any weaknesses that can be exploited within the product development cycle.

The first step in a competitor analysis is to identify the current and potential competition. There are essentially two ways you can identify competitors. The first is to look at the market from the customer's viewpoint and group all your competitors by the degree to which they contend for the buyer's dollar. The second method is to group competitors according to their various competitive strategies so you understand what motivates them.

Once you've grouped your competitors, you can start to analyze their strategies and identify the areas where they're most vulnerable. This can be done through an examination of your competitors' weaknesses and strengths. A competitor's strengths and weaknesses are usually based on the presence and absence of key assets and skills needed to compete in the market.

To determine just what constitutes a key asset or skill within an industry, David A. Aaker in his book, Developing Business Strategies , suggests concentrating your efforts in four areas:

  • The reasons behind successful as well as unsuccessful firms
  • Prime customer motivators
  • Major component costs
  • Industry mobility barriers

According to theory, the performance of a company within a market is directly related to the possession of key assets and skills. Therefore, an analysis of strong performers should reveal the causes behind such a successful track record. This analysis, in conjunction with an examination of unsuccessful companies and the reasons behind their failure, should provide a good idea of just what key assets and skills are needed to be successful within a given industry and market segment.

Through your competitor analysis, you will also have to create a marketing strategy that will generate an asset or skill competitors don't have, which will provide you with a distinct and enduring competitive advantage. Since competitive advantages are developed from key assets and skills, you should sit down and put together a competitive strength grid. This is a scale that lists all your major competitors or strategic groups based upon their applicable assets and skills and how your own company fits on this scale.

Create a Competitive Strength Grid

To put together a competitive strength grid, list all the key assets and skills down the left margin of a piece of paper. Along the top, write down two column headers: "weakness" and "strength." In each asset or skill category, place all the competitors that have weaknesses in that particular category under the weakness column, and all those that have strengths in that specific category in the strength column. After you've finished, you'll be able to determine just where you stand in relation to the other firms competing in your industry.

Once you've established the key assets and skills necessary to succeed in this business and have defined your distinct competitive advantage, you need to communicate them in a strategic form that will attract market share as well as defend it. Competitive strategies usually fall into these five areas:

  • Advertising

Many of the factors leading to the formation of a strategy should already have been highlighted in previous sections, specifically in marketing strategies. Strategies primarily revolve around establishing the point of entry in the product life cycle and an endurable competitive advantage. As we've already discussed, this involves defining the elements that will set your product or service apart from your competitors or strategic groups. You need to establish this competitive advantage clearly so the reader understands not only how you will accomplish your goals, but also why your strategy will work.

Design and Development Plan

What you'll cover in this section.

The purpose of the design and development plan section is to provide investors with a description of the product's design, chart its development within the context of production, marketing and the company itself, and create a development budget that will enable the company to reach its goals.

There are generally three areas you'll cover in the development plan section:

  • Product development
  • Market development
  • Organizational development

Each of these elements needs to be examined from the funding of the plan to the point where the business begins to experience a continuous income. Although these elements will differ in nature concerning their content, each will be based on structure and goals.

The first step in the development process is setting goals for the overall development plan. From your analysis of the market and competition, most of the product, market and organizational development goals will be readily apparent. Each goal you define should have certain characteristics. Your goals should be quantifiable in order to set up time lines, directed so they relate to the success of the business, consequential so they have impact upon the company, and feasible so that they aren't beyond the bounds of actual completion.

Goals For Product Development

Goals for product development should center on the technical as well as the marketing aspects of the product so that you have a focused outline from which the development team can work. For example, a goal for product development of a microbrewed beer might be "Produce recipe for premium lager beer" or "Create packaging for premium lager beer." In terms of market development, a goal might be, "Develop collateral marketing material." Organizational goals would center on the acquisition of expertise in order to attain your product and market-development goals. This expertise usually needs to be present in areas of key assets that provide a competitive advantage. Without the necessary expertise, the chances of bringing a product successfully to market diminish.

With your goals set and expertise in place, you need to form a set of procedural tasks or work assignments for each area of the development plan. Procedures will have to be developed for product development, market development, and organization development. In some cases, product and organization can be combined if the list of procedures is short enough.

Procedures should include how resources will be allocated, who is in charge of accomplishing each goal, and how everything will interact. For example, to produce a recipe for a premium lager beer, you would need to do the following:

  • Gather ingredients.
  • Determine optimum malting process.
  • Gauge mashing temperature.
  • Boil wort and evaluate which hops provide the best flavor.
  • Determine yeast amounts and fermentation period.
  • Determine aging period.
  • Carbonate the beer.
  • Decide whether or not to pasteurize the beer.

The development of procedures provides a list of work assignments that need to be accomplished, but one thing it doesn't provide are the stages of development that coordinate the work assignments within the overall development plan. To do this, you first need to amend the work assignments created in the procedures section so that all the individual work elements are accounted for in the development plan. The next stage involves setting deliverable dates for components as well as the finished product for testing purposes. There are primarily three steps you need to go through before the product is ready for final delivery:

  • Preliminary product review . All the product's features and specifications are checked.
  • Critical product review . All the key elements of the product are checked and gauged against the development schedule to make sure everything is going according to plan.
  • Final product review . All elements of the product are checked against goals to assure the integrity of the prototype.

Scheduling and Costs

This is one of the most important elements in the development plan. Scheduling includes all of the key work elements as well as the stages the product must pass through before customer delivery. It should also be tied to the development budget so that expenses can be tracked. But its main purpose is to establish time frames for completion of all work assignments and juxtapose them within the stages through which the product must pass. When producing the schedule, provide a column for each procedural task, how long it takes, start date and stop date. If you want to provide a number for each task, include a column in the schedule for the task number.

Development Budget

That leads us into a discussion of the development budget. When forming your development budget, you need to take into account all the expenses required to design the product and to take it from prototype to production.

Costs that should be included in the development budget include:

  • Material . All raw materials used in the development of the product.
  • Direct labor . All labor costs associated with the development of the product.
  • Overhead . All overhead expenses required to operate the business during the development phase such as taxes, rent, phone, utilities, office supplies, etc.
  • G&A costs . The salaries of executive and administrative personnel along with any other office support functions.
  • Marketing & sales . The salaries of marketing personnel required to develop pre-promotional materials and plan the marketing campaign that should begin prior to delivery of the product.
  • Professional services . Those costs associated with the consultation of outside experts such as accountants, lawyers, and business consultants.
  • Miscellaneous Costs . Costs that are related to product development.
  • Capital equipment . To determine the capital requirements for the development budget, you first have to establish what type of equipment you will need, whether you will acquire the equipment or use outside contractors, and finally, if you decide to acquire the equipment, whether you will lease or purchase it.

As we mentioned already, the company has to have the proper expertise in key areas to succeed; however, not every company will start a business with the expertise required in every key area. Therefore, the proper personnel have to be recruited, integrated into the development process, and managed so that everyone forms a team focused on the achievement of the development goals.

Before you begin recruiting, however, you should determine which areas within the development process will require the addition of personnel. This can be done by reviewing the goals of your development plan to establish key areas that need attention. After you have an idea of the positions that need to be filled, you should produce a job description and job specification.

Once you've hired the proper personnel, you need to integrate them into the development process by assigning tasks from the work assignments you've developed. Finally, the whole team needs to know what their role is within the company and how each interrelates with every position within the development team. In order to do this, you should develop an organizational chart for your development team.

Assessing Risks

Finally, the risks involved in developing the product should be assessed and a plan developed to address each one. The risks during the development stage will usually center on technical development of the product, marketing, personnel requirements, and financial problems. By identifying and addressing each of the perceived risks during the development period, you will allay some of your major fears concerning the project and those of investors as well.

Operations & Management

The operations and management plan is designed to describe just how the business functions on a continuing basis. The operations plan will highlight the logistics of the organization such as the various responsibilities of the management team, the tasks assigned to each division within the company, and capital and expense requirements related to the operations of the business. In fact, within the operations plan you'll develop the next set of financial tables that will supply the foundation for the "Financial Components" section.

The financial tables that you'll develop within the operations plan include:

  • The operating expense table
  • The capital requirements table
  • The cost of goods table

There are two areas that need to be accounted for when planning the operations of your company. The first area is the organizational structure of the company, and the second is the expense and capital requirements associated with its operation.

Organizational Structure

The organizational structure of the company is an essential element within a business plan because it provides a basis from which to project operating expenses. This is critical to the formation of financial statements, which are heavily scrutinized by investors; therefore, the organizational structure has to be well-defined and based within a realistic framework given the parameters of the business.

Although every company will differ in its organizational structure, most can be divided into several broad areas that include:

  • Marketing and sales (includes customer relations and service)
  • Production (including quality assurance)
  • Research and development
  • Administration

These are very broad classifications and it's important to keep in mind that not every business can be divided in this manner. In fact, every business is different, and each one must be structured according to its own requirements and goals.

The four stages for organizing a business are:

Calculate Your Personnel Numbers

Once you've structured your business, however, you need to consider your overall goals and the number of personnel required to reach those goals. In order to determine the number of employees you'll need to meet the goals you've set for your business, you'll need to apply the following equation to each department listed in your organizational structure: C / S = P

In this equation, C represents the total number of customers, S represents the total number of customers that can be served by each employee, and P represents the personnel requirements. For instance, if the number of customers for first year sales is projected at 10,110 and one marketing employee is required for every 200 customers, you would need 51 employees within the marketing department: 10,110 / 200 = 51

Once you calculate the number of employees that you'll need for your organization, you'll need to determine the labor expense. The factors that need to be considered when calculating labor expense (LE) are the personnel requirements (P) for each department multiplied by the employee salary level (SL). Therefore, the equation would be: P * SL = LE

Using the marketing example from above, the labor expense for that department would be: 51 * $40,000 = $2,040,000

Calculate Overhead Expenses

Once the organization's operations have been planned, the expenses associated with the operation of the business can be developed. These are usually referred to as overhead expenses. Overhead expenses refer to all non-labor expenses required to operate the business. Expenses can be divided into fixed (those that must be paid, usually at the same rate, regardless of the volume of business) and variable or semivariable (those which change according to the amount of business).

Overhead expenses usually include the following:

  • Maintenance and repair
  • Equipment leases
  • Advertising & promotion
  • Packaging & shipping
  • Payroll taxes and benefits
  • Uncollectible receivables
  • Professional services
  • Loan payments
  • Depreciation

In order to develop the overhead expenses for the expense table used in this portion of the business plan, you need to multiply the number of employees by the expenses associated with each employee. Therefore, if NE represents the number of employees and EE is the expense per employee, the following equation can be used to calculate the sum of each overhead (OH) expense: OH = NE * EE

Develop a Capital Requirements Table

In addition to the expense table, you'll also need to develop a capital requirements table that depicts the amount of money necessary to purchase the equipment you'll use to establish and continue operations. It also illustrates the amount of depreciation your company will incur based on all equipment elements purchased with a lifetime of more than one year.

In order to generate the capital requirements table, you first have to establish the various elements within the business that will require capital investment. For service businesses, capital is usually tied to the various pieces of equipment used to service customers.

Capital for manufacturing companies, on the other hand, is based on the equipment required in order to produce the product. Manufacturing equipment usually falls into three categories: testing equipment, assembly equipment and packaging equipment.

With these capital elements in mind, you need to determine the number of units or customers, in terms of sales, that each equipment item can adequately handle. This is important because capital requirements are a product of income, which is produced through unit sales. In order to meet sales projections, a business usually has to invest money to increase production or supply better service. In the business plan, capital requirements are tied to projected sales as illustrated in the revenue model shown earlier in this chapter.

For instance, if the capital equipment required is capable of handling the needs of 10,000 customers at an average sale of $10 each, that would be $100,000 in sales, at which point additional capital will be required in order to purchase more equipment should the company grow beyond this point. This leads us to another factor within the capital requirements equation, and that is equipment cost.

If you multiply the cost of equipment by the number of customers it can support in terms of sales, it would result in the capital requirements for that particular equipment element. Therefore, you can use an equation in which capital requirements (CR) equals sales (S) divided by number of customers (NC) supported by each equipment element, multiplied by the average sale (AS), which is then multiplied by the capital cost (CC) of the equipment element. Given these parameters, your equation would look like the following: CR = [(S / NC) * AS] * CC

The capital requirements table is formed by adding all your equipment elements to generate the total new capital for that year. During the first year, total new capital is also the total capital required. For each successive year thereafter, total capital (TC) required is the sum of total new capital (NC) plus total capital (PC) from the previous year, less depreciation (D), once again, from the previous year. Therefore, your equation to arrive at total capital for each year portrayed in the capital requirements model would be: TC = NC + PC - D

Keep in mind that depreciation is an expense that shows the decrease in value of the equipment throughout its effective lifetime. For many businesses, depreciation is based upon schedules that are tied to the lifetime of the equipment. Be careful when choosing the schedule that best fits your business. Depreciation is also the basis for a tax deduction as well as the flow of money for new capital. You may need to seek consultation from an expert in this area.

Create a Cost of Goods Table

The last table that needs to be generated in the operations and management section of your business plan is the cost of goods table. This table is used only for businesses where the product is placed into inventory. For a retail or wholesale business, cost of goods sold --or cost of sales --refers to the purchase of products for resale, i.e. the inventory. The products that are sold are logged into cost of goods as an expense of the sale, while those that aren't sold remain in inventory.

For a manufacturing firm, cost of goods is the cost incurred by the company to manufacture its product. This usually consists of three elements:

As in retail, the merchandise that is sold is expensed as a cost of goods , while merchandise that isn't sold is placed in inventory. Cost of goods has to be accounted for in the operations of a business. It is an important yardstick for measuring the firm's profitability for the cash-flow statement and income statement.

In the income statement, the last stage of the manufacturing process is the item expensed as cost of goods, but it is important to document the inventory still in various stages of the manufacturing process because it represents assets to the company. This is important to determining cash flow and to generating the balance sheet.

That is what the cost of goods table does. It's one of the most complicated tables you'll have to develop for your business plan, but it's an integral part of portraying the flow of inventory through your operations, the placement of assets within the company, and the rate at which your inventory turns.

In order to generate the cost of goods table, you need a little more information in addition to what your labor and material cost is per unit. You also need to know the total number of units sold for the year, the percentage of units which will be fully assembled, the percentage which will be partially assembled, and the percentage which will be in unassembled inventory. Much of these figures will depend on the capacity of your equipment as well as on the inventory control system you develop. Along with these factors, you also need to know at what stage the majority of the labor is performed.

Financial Components

Financial statements to include.

Financial data is always at the back of the business plan, but that doesn't mean it's any less important than up-front material such as the business concept and the management team. Astute investors look carefully at the charts, tables, formulas and spreadsheets in the financial section, because they know that this information is like the pulse, respiration rate and blood pressure in a human--it shows whether the patient is alive and what the odds are for continued survival.

Financial statements, like bad news, come in threes. The news in financial statements isn't always bad, of course, but taken together it provides an accurate picture of a company's current value, plus its ability to pay its bills today and earn a profit going forward.

The three common statements are a cash flow statement, an income statement and a balance sheet. Most entrepreneurs should provide them and leave it at that. But not all do. But this is a case of the more, the less merry. As a rule, stick with the big three: income, balance sheet and cash flow statements.

These three statements are interlinked, with changes in one necessarily altering the others, but they measure quite different aspects of a company's financial health. It's hard to say that one of these is more important than another. But of the three, the income statement may be the best place to start.

Income Statement

The income statement is a simple and straightforward report on the proposed business's cash-generating ability. It's a score card on the financial performance of your business that reflects when sales are made and when expenses are incurred. It draws information from the various financial models developed earlier such as revenue, expenses, capital (in the form of depreciation), and cost of goods. By combining these elements, the income statement illustrates just how much your company makes or loses during the year by subtracting cost of goods and expenses from revenue to arrive at a net result--which is either a profit or a loss.

For a business plan, the income statement should be generated on a monthly basis during the first year, quarterly for the second, and annually for each year thereafter. It's formed by listing your financial projections in the following manner:

  • Income . Includes all the income generated by the business and its sources.
  • Cost of goods . Includes all the costs related to the sale of products in inventory.
  • Gross profit margin . The difference between revenue and cost of goods. Gross profit margin can be expressed in dollars, as a percentage, or both. As a percentage, the GP margin is always stated as a percentage of revenue.
  • Operating expenses . Includes all overhead and labor expenses associated with the operations of the business.
  • Total expenses . The sum of all overhead and labor expenses required to operate the business.
  • Net profit . The difference between gross profit margin and total expenses, the net income depicts the business's debt and capital capabilities.
  • Depreciation . Reflects the decrease in value of capital assets used to generate income. Also used as the basis for a tax deduction and an indicator of the flow of money into new capital.
  • Net profit before interest . The difference between net profit and depreciation.
  • Interest . Includes all interest derived from debts, both short-term and long-term. Interest is determined by the amount of investment within the company.
  • Net profit before taxes . The difference between net profit before interest and interest.
  • Taxes . Includes all taxes on the business.
  • Profit after taxes . The difference between net profit before taxes and the taxes accrued. Profit after taxes is the bottom line for any company.

Following the income statement is a short note analyzing the statement. The analysis statement should be very short, emphasizing key points within the income statement.

Cash Flow Statement

The cash-flow statement is one of the most critical information tools for your business, showing how much cash will be needed to meet obligations, when it is going to be required, and from where it will come. It shows a schedule of the money coming into the business and expenses that need to be paid. The result is the profit or loss at the end of the month or year. In a cash-flow statement, both profits and losses are carried over to the next column to show the cumulative amount. Keep in mind that if you run a loss on your cash-flow statement, it is a strong indicator that you will need additional cash in order to meet expenses.

Like the income statement, the cash-flow statement takes advantage of previous financial tables developed during the course of the business plan. The cash-flow statement begins with cash on hand and the revenue sources. The next item it lists is expenses, including those accumulated during the manufacture of a product. The capital requirements are then logged as a negative after expenses. The cash-flow statement ends with the net cash flow.

The cash-flow statement should be prepared on a monthly basis during the first year, on a quarterly basis during the second year, and on an annual basis thereafter. Items that you'll need to include in the cash-flow statement and the order in which they should appear are as follows:

  • Cash sales . Income derived from sales paid for by cash.
  • Receivables . Income derived from the collection of receivables.
  • Other income . Income derived from investments, interest on loans that have been extended, and the liquidation of any assets.
  • Total income . The sum of total cash, cash sales, receivables, and other income.
  • Material/merchandise . The raw material used in the manufacture of a product (for manufacturing operations only), the cash outlay for merchandise inventory (for merchandisers such as wholesalers and retailers), or the supplies used in the performance of a service.
  • Production labor . The labor required to manufacture a product (for manufacturing operations only) or to perform a service.
  • Overhead . All fixed and variable expenses required for the production of the product and the operations of the business.
  • Marketing/sales . All salaries, commissions, and other direct costs associated with the marketing and sales departments.
  • R&D . All the labor expenses required to support the research and development operations of the business.
  • G&A . All the labor expenses required to support the administrative functions of the business.
  • Taxes . All taxes, except payroll, paid to the appropriate government institutions.
  • Capital . The capital required to obtain any equipment elements that are needed for the generation of income.
  • Loan payment . The total of all payments made to reduce any long-term debts.
  • Total expenses . The sum of material, direct labor, overhead expenses, marketing, sales, G&A, taxes, capital and loan payments.
  • Cash flow . The difference between total income and total expenses. This amount is carried over to the next period as beginning cash.
  • Cumulative cash flow . The difference between current cash flow and cash flow from the previous period.

As with the income statement, you will need to analyze the cash-flow statement in a short summary in the business plan. Once again, the analysis statement doesn't have to be long and should cover only key points derived from the cash-flow statement.

The Balance Sheet

The last financial statement you'll need to develop is the balance sheet. Like the income and cash-flow statements, the balance sheet uses information from all of the financial models developed in earlier sections of the business plan; however, unlike the previous statements, the balance sheet is generated solely on an annual basis for the business plan and is, more or less, a summary of all the preceding financial information broken down into three areas:

To obtain financing for a new business, you may need to provide a projection of the balance sheet over the period of time the business plan covers. More importantly, you'll need to include a personal financial statement or balance sheet instead of one that describes the business. A personal balance sheet is generated in the same manner as one for a business.

As mentioned, the balance sheet is divided into three sections. The top portion of the balance sheet lists your company's assets. Assets are classified as current assets and long-term or fixed assets. Current assets are assets that will be converted to cash or will be used by the business in a year or less. Current assets include:

  • Cash . The cash on hand at the time books are closed at the end of the fiscal year.
  • Accounts receivable . The income derived from credit accounts. For the balance sheet, it's the total amount of income to be received that is logged into the books at the close of the fiscal year.
  • Inventory . This is derived from the cost of goods table. It's the inventory of material used to manufacture a product not yet sold.
  • Total current assets . The sum of cash, accounts receivable, inventory, and supplies.

Other assets that appear in the balance sheet are called long-term or fixed assets. They are called long-term because they are durable and will last more than one year. Examples of this type of asset include:

  • Capital and plant . The book value of all capital equipment and property (if you own the land and building), less depreciation.
  • Investment . All investments by the company that cannot be converted to cash in less than one year. For the most part, companies just starting out have not accumulated long-term investments.
  • Miscellaneous assets . All other long-term assets that are not "capital and plant" or "investments."
  • Total long-term assets . The sum of capital and plant, investments, and miscellaneous assets.
  • Total assets . The sum of total current assets and total long-term assets.

After the assets are listed, you need to account for the liabilities of your business. Like assets, liabilities are classified as current or long-term. If the debts are due in one year or less, they are classified as a current liabilities. If they are due in more than one year, they are long-term liabilities. Examples of current liabilities are as follows:

  • Accounts payable . All expenses derived from purchasing items from regular creditors on an open account, which are due and payable.
  • Accrued liabilities . All expenses incurred by the business which are required for operation but have not been paid at the time the books are closed. These expenses are usually the company's overhead and salaries.
  • Taxes . These are taxes that are still due and payable at the time the books are closed.
  • Total current liabilities . The sum of accounts payable, accrued liabilities, and taxes.

Long-term liabilities include:

  • Bonds payable . The total of all bonds at the end of the year that are due and payable over a period exceeding one year.
  • Mortgage payable . Loans taken out for the purchase of real property that are repaid over a long-term period. The mortgage payable is that amount still due at the close of books for the year.
  • Notes payable . The amount still owed on any long-term debts that will not be repaid during the current fiscal year.
  • Total long-term liabilities . The sum of bonds payable, mortgage payable, and notes payable.
  • Total liabilities . The sum of total current and long-term liabilities.

Once the liabilities have been listed, the final portion of the balance sheet-owner's equity-needs to be calculated. The amount attributed to owner's equity is the difference between total assets and total liabilities. The amount of equity the owner has in the business is an important yardstick used by investors when evaluating the company. Many times it determines the amount of capital they feel they can safely invest in the business.

In the business plan, you'll need to create an analysis statement for the balance sheet just as you need to do for the income and cash flow statements. The analysis of the balance sheet should be kept short and cover key points about the company.

Source: The Small Business Encyclopedia , Business Plans Made Easy, Start Your Own Business and Entrepreneur magazine.

Business Plan Guide

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BUS202: Principles of Finance

the most important element of a business plan's financial plan is the cash budget which shows

The Importance of Cash and Cash Management

Management of cash is the primary concern of most entrepreneurs when they start a business. How will they ensure they collect funds in time to pay their bills? Cash management is also a key concern for most households. For example, I may know that I make enough money to pay all my bills, but if the timing of when the cash hits my bank versus when my bills are due isn't in sync, I run the risk of penalties or worse.

Components of the Cash Budget

The cash budget includes the beginning balance, detail on payments and receipts, and an ending balance.

Learning Objective

Identify the different components of a cash budget

  • The cash flow budget helps the business determine when its income will be sufficient to cover its expenses and when the company will need to seek outside financing.
  • Components - major classes include cash receipts and payments.
  • Cash receipts include cash generated from operations, cash receipts from customers, proceeds from the sale of equipment, dividends received, and other income.
  • Cash payments include cash paid to suppliers, cash paid to employees, purchase of assets, payments related to mergers and acquisitions, interest paid, income taxes paid, dividends paid, and other payments.
  • stockholders : A shareholder or stockholder is an individual or institution (including a corporation) that legally owns a share of stock in a public or private corporation.
  • mergers and acquisitions : Mergers and acquisitions (abbreviated M&A) is an aspect of corporate strategy, corporate finance, and management dealing with the buying, selling, dividing and combining of different companies and similar entities that can help an enterprise grow rapidly, whether in its sector or location of origin, or a new field or new location, without creating a subsidiary, other child entity, or using a joint venture.

Cash Budget

A cash budget is a prediction of future cash receipts and expenditures for a particular time period, usually in the near future. The cash flow budget helps the business determine when its income will be sufficient to cover its expenses and when the company will need to seek outside financing.

A Sample Balance Sheet : One of the assets listed is cash, which factors into the overall budget.

Components: Major classes include cash receipts and payments.

Cash balance, beginning of the year, cash receipts.

  • Cash generated from operations
  • Cash receipts from customers - Collecting the accounts receivable. Accounts receivable, also known as Debtors, is money owed to a business by its clients (customers) and shown on the business's balance sheet as an asset. It is one of a series of accounting transactions dealing with the billing of a customer for goods and services that the customer has ordered.
  • Proceeds from the sale of equipment
  • Dividends received: Dividends are payments made by a corporation to its shareholder members. It is the portion of corporate profits paid out to stockholders. When a corporation earns a profit or surplus, that money can be put to two uses: it can either be re-invested in the business (called retained earnings), or it can be distributed to shareholders.
  • Other income: Other investment or other interest income, etc.

Cash Payments

  • Cash paid to suppliers
  • Cash paid to employees - Salary, wages expenses.
  • Purchase of asset - Equipment, machine, real estate, etc.
  • Payments related to mergers and acquisitions
  • Interest paid - Interest of short-term or long-term debt.
  • Income taxes paid
  • Dividends paid - Paying dividends to shareholders or investors.
  • Debt paid - Short term or long term debt principle.
  • Other payment - Which includes Advertising, Selling expenses, Administrative expense, Insurance expenses, Rent expenses, etc.

Net increase in cash and cash equivalents

Cash balance, end of year

  • 7.3 Prepare Financial Budgets
  • Why It Matters
  • 1.1 Define Managerial Accounting and Identify the Three Primary Responsibilities of Management
  • 1.2 Distinguish between Financial and Managerial Accounting
  • 1.3 Explain the Primary Roles and Skills Required of Managerial Accountants
  • 1.4 Describe the Role of the Institute of Management Accountants and the Use of Ethical Standards
  • 1.5 Describe Trends in Today’s Business Environment and Analyze Their Impact on Accounting
  • Multiple Choice
  • Exercise Set A
  • Exercise Set B
  • Thought Provokers
  • 2.1 Distinguish between Merchandising, Manufacturing, and Service Organizations
  • 2.2 Identify and Apply Basic Cost Behavior Patterns
  • 2.3 Estimate a Variable and Fixed Cost Equation and Predict Future Costs
  • Problem Set A
  • Problem Set B
  • 3.1 Explain Contribution Margin and Calculate Contribution Margin per Unit, Contribution Margin Ratio, and Total Contribution Margin
  • 3.2 Calculate a Break-Even Point in Units and Dollars
  • 3.3 Perform Break-Even Sensitivity Analysis for a Single Product Under Changing Business Situations
  • 3.4 Perform Break-Even Sensitivity Analysis for a Multi-Product Environment Under Changing Business Situations
  • 3.5 Calculate and Interpret a Company’s Margin of Safety and Operating Leverage
  • 4.1 Distinguish between Job Order Costing and Process Costing
  • 4.2 Describe and Identify the Three Major Components of Product Costs under Job Order Costing
  • 4.3 Use the Job Order Costing Method to Trace the Flow of Product Costs through the Inventory Accounts
  • 4.4 Compute a Predetermined Overhead Rate and Apply Overhead to Production
  • 4.5 Compute the Cost of a Job Using Job Order Costing
  • 4.6 Determine and Dispose of Underapplied or Overapplied Overhead
  • 4.7 Prepare Journal Entries for a Job Order Cost System
  • 4.8 Explain How a Job Order Cost System Applies to a Nonmanufacturing Environment
  • 5.1 Compare and Contrast Job Order Costing and Process Costing
  • 5.2 Explain and Identify Conversion Costs
  • 5.3 Explain and Compute Equivalent Units and Total Cost of Production in an Initial Processing Stage
  • 5.4 Explain and Compute Equivalent Units and Total Cost of Production in a Subsequent Processing Stage
  • 5.5 Prepare Journal Entries for a Process Costing System
  • 6.1 Calculate Predetermined Overhead and Total Cost under the Traditional Allocation Method
  • 6.2 Describe and Identify Cost Drivers
  • 6.3 Calculate Activity-Based Product Costs
  • 6.4 Compare and Contrast Traditional and Activity-Based Costing Systems
  • 6.5 Compare and Contrast Variable and Absorption Costing
  • 7.1 Describe How and Why Managers Use Budgets
  • 7.2 Prepare Operating Budgets
  • 7.4 Prepare Flexible Budgets
  • 7.5 Explain How Budgets Are Used to Evaluate Goals
  • 8.1 Explain How and Why a Standard Cost Is Developed
  • 8.2 Compute and Evaluate Materials Variances
  • 8.3 Compute and Evaluate Labor Variances
  • 8.4 Compute and Evaluate Overhead Variances
  • 8.5 Describe How Companies Use Variance Analysis
  • 9.1 Differentiate between Centralized and Decentralized Management
  • 9.2 Describe How Decision-Making Differs between Centralized and Decentralized Environments
  • 9.3 Describe the Types of Responsibility Centers
  • 9.4 Describe the Effects of Various Decisions on Performance Evaluation of Responsibility Centers
  • 10.1 Identify Relevant Information for Decision-Making
  • 10.2 Evaluate and Determine Whether to Accept or Reject a Special Order
  • 10.3 Evaluate and Determine Whether to Make or Buy a Component
  • 10.4 Evaluate and Determine Whether to Keep or Discontinue a Segment or Product
  • 10.5 Evaluate and Determine Whether to Sell or Process Further
  • 10.6 Evaluate and Determine How to Make Decisions When Resources Are Constrained
  • 11.1 Describe Capital Investment Decisions and How They Are Applied
  • 11.2 Evaluate the Payback and Accounting Rate of Return in Capital Investment Decisions
  • 11.3 Explain the Time Value of Money and Calculate Present and Future Values of Lump Sums and Annuities
  • 11.4 Use Discounted Cash Flow Models to Make Capital Investment Decisions
  • 11.5 Compare and Contrast Non-Time Value-Based Methods and Time Value-Based Methods in Capital Investment Decisions
  • 12.1 Explain the Importance of Performance Measurement
  • 12.2 Identify the Characteristics of an Effective Performance Measure
  • 12.3 Evaluate an Operating Segment or a Project Using Return on Investment, Residual Income, and Economic Value Added
  • 12.4 Describe the Balanced Scorecard and Explain How It Is Used
  • 13.1 Describe Sustainability and the Way It Creates Business Value
  • 13.2 Identify User Needs for Information
  • 13.3 Discuss Examples of Major Sustainability Initiatives
  • 13.4 Future Issues in Sustainability
  • A | Financial Statement Analysis
  • B | Time Value of Money
  • C | Suggested Resources

Now that you have developed an understanding of operating budgets, let’s turn to the other primary component of the master budget: financial budgets. Preparing financial budgets involves examining the expectations for financing the operations of the business and planning for the cash needs of the organization. The budget helps estimate the source, amount, and timing of cash collection and cash payments as well as determine if and when additional financing is needed or debt can be paid.

Individual Financial Budgets

Preparing a financial budget first requires preparing the capital asset budget, the cash budgets, and the budgeted balance sheet. The capital asset budget represents a significant investment in cash, and the amount is carried to the cash budget. Therefore, it needs to be prepared before the cash budget. If the cash will not be available, the capital asset budget can be adjusted and, again, carried to the cash budget.

When the budgets are complete, the beginning and ending balance from the cash budget, changes in financing, and changes in equity are shown on the budgeted balance sheet.

Capital Asset Budget

The capital asset budget , also called the capital expenditure budget , shows the company’s plans to invest in long-term assets. Some assets, such as computers, must be replaced every few years, while other assets, such as manufacturing equipment, are purchased very infrequently. Some assets can be purchased with cash, whereas others may require a loan. Budgeting for these types of expenditures requires long-range planning because the purchases affect cash flows in current and future periods and affect the income statement due to depreciation and interest expenses.

Cash Budget

The cash budget is the combined budget of all inflows and outflows of cash. It should be divided into the shortest time period possible, so management can be quickly made aware of potential problems resulting from fluctuations in cash flow. One goal of this budget is to anticipate the timing of cash inflows and outflows, which allows a company to try to avoid a decrease in the cash balance due to paying out more cash than it receives. In order to provide timely feedback and alert management to short-term cash needs, the cash flow budget is commonly geared toward monthly or quarterly figures. Figure 7.15 shows how the other budgets tie into the cash budget.

Cash is so important to the operations of a company that, often, companies will arrange to have an emergency cash source, such as a line of credit , to avoid defaulting on current payables due and also to protect against other unanticipated expenses, such as major repair costs on equipment. This line of credit would be similar in function to the overdraft protection offered on many checking accounts.

Because the cash budget accounts for every inflow and outflow of cash, it is broken down into smaller components. The cash collections schedule includes all of the cash inflow expected to be received from customer sales, whether those customers pay at the same rate or even if they pay at all. The cash collections schedule includes all the cash expected to be received and does not include the amount of the receivables estimated as uncollectible. The cash payments schedule plans the outflow or payments of all accounts payable, showing when cash will be used to pay for direct material purchases. Both the cash collections schedule and the cash payments schedule are included along with other cash transactions in a cash budget. The cash budget, then, combines the cash collection schedule, the cash payment schedule, and all other budgets that plan for the inflow or outflow of cash. When everything is combined into one budget, that budget shows if financing arrangements are needed to maintain balances or if excess cash is available to pay for additional liabilities or assets.

The operating budgets all begin with the sales budget. The cash collections schedule does as well. Since purchases are made at varying times during the period and cash is received from customers at varying rates, data are needed to estimate how much will be collected in the month of sale, the month after the sale, two months after the sale, and so forth. Bad debts also need to be estimated, since that is cash that will not be collected.

To illustrate, let’s return to Big Bad Bikes. They believe cash collections for the trainer sales will be similar to the collections from their bicycle sales, so they will use that pattern to budget cash collections for the trainers. In the quarter of sales, 65% of that quarter’s sales will be collected. In the quarter after the sale, 30% will be collected. This leaves 5% of the sales considered uncollectible. Figure 7.16 illustrates when each quarter’s sales will be collected. An estimate of the net realizable balance of Accounts Receivable can be reconciled by using information from the cash collections schedule:

For example, in quarter 1 of year 2, 65% of the quarter 1 sales will be collected in cash, as well as 30% of the sales from quarter 4 of the prior year. There were no sales in quarter 4 of the prior year so 30% of zero sales shows the collections are $0. Using information from Big Bad Bikes sales budget, the cash collections from the sales are shown in Figure 7.17 .

When the cash collections schedule is made for sales, management must account for other potential cash collections such as cash received from the sale of equipment or the issuance of stock. These are listed individually in the cash inflows portion of the cash budget.

The cash payments schedule, on the other hand, shows when cash will be used to pay for Accounts Payable. One such example are direct material purchases, which originates from the direct materials budget. When the production budget is determined from the sales, management prepares the direct materials budget to determine when and how much material needs to be ordered. Orders for materials take place throughout the quarter, and payments for the purchases are made at different intervals from the orders. A schedule of cash payments is similar to the cash collections schedule, except that it accounts for the company’s purchases instead of the company’s sales. The information from the cash payments schedule feeds into the cash budget.

Big Bad Bikes typically pays half of its purchases in the quarter of purchase. The remaining half is paid in the following quarter, so payments in the first quarter include payments for purchases made during the first quarter as well as half of the purchases for the preceding quarter. Figure 7.18 shows when each quarter’s purchases will be paid. Additionally, the balance of purchases in Accounts Payable can be reconciled by using information from the cash payment schedule as follows:

The first quarter of the year plans cash payments from the prior quarter as well as the current quarter. Again, since the trainers are a new product, in this example, there are no purchases in the preceding quarter, and the payments are $0. Figure 7.19 .

While the cash payments schedule is made for purchases of material on account, there are other outflows of cash for the company, and management must estimate all other cash payments for the year. Typically, this includes the manufacturing overhead budget, the sales and administrative budget, the capital asset budget, and any other potential payments of cash. Since depreciation is an expense not requiring cash, the cash budget includes the amount from the budgets less depreciation. Cash payments are listed on the cash budget following cash receipts. Figure 7.20 shows the major components of the cash budget.

The cash budget totals the cash receipts and adds it to the beginning cash balance to determine the available cash. From the available cash, the cash payments are subtracted to compute the net cash excess or deficiency of cash for the quarter. This amount is the potential ending cash balance. Organizations typically require a minimum cash balance. If the potential ending cash balance does not meet the minimum amount, management must plan to acquire financing to reach that amount. If the potential ending cash balance exceeds the minimum cash balance, the excess amount may be used to pay any financing loans and interest.

Big Bad Bikes has a minimum cash balance requirement of $10,000 and has a line of credit available for an interest rate of 19%. They also plan to issue additional capital stock for $5,000 in the first quarter, to pay taxes of $1,000 during each quarter, and to purchase a copier for $8,500 cash in the third quarter. The beginning cash balance for Big Bad Bikes is $13,000, which can be used to create the cash budget shown in Figure 7.21 .

Budgeted Balance Sheet

The cash budget shows how cash changes from the beginning of the year to the end of the year, and the ending cash balance is the amount shown on the budgeted balance sheet. The budgeted balance sheet is the estimated assets, liabilities, and equities that the company would have at the end of the year if their performance were to meet its expectations. Table 7.1 shows a list of the most common changes to the balance sheet and where the information is derived.

Other balance sheet changes throughout the year are reflected in the income statement and statement of cash flows. For example, the beginning cash balance of Accounts Receivable plus the sales, less the cash collected results in the ending balance of Accounts Receivable. A similar formula is used to compute the ending balance in Accounts Payable. Other budgets and information such as the capital asset budget, depreciation, and financing loans are used as well.

To explain how to use a budgeted balance sheet, let’s return to Big Bad Bikes. For simplicity, assume that they did not have accounts receivable or payable at the beginning of the year. They also incurred and paid back their financing during the year, so there is no ending debt. However, the cash budget shows cash inflows and outflows not related to sales or the purchase of materials. The company’s capital assets increased by $8,500 from the copier purchase, and their common stock increased by $5,000 from the additional issue as shown in Figure 7.22 .

Though there seem to be many budgets, they all fit together like a puzzle to create an overall picture of how a company expects the upcoming business year to look. Figure 7.15 detailed the components of the master budget, and can be used to summarize the budget process. All budgets begin with the sales budget. This budget estimates the number of units that need to be manufactured and precedes the production budget. The production budget (refer to Figure 7.6 ) provides the necessary information for the budgets needed to plan how many units will be produced. Knowing how many units need to be produced from the production budget, the direct materials budget, direct labor budget, and the manufacturing overhead budget are all prepared. The sales and administrative budget is a nonmanufacturing budget that relies on the sales estimates to pay commissions and other variable expenses. The sales and expenses estimated in all of these budgets are used to develop a budgeted income statement.

The estimated sales information is used to prepare the cash collections schedule, and the direct materials budget is used to prepare the cash payment schedule. The cash receipts and cash payments budget are combined with the direct labor budget, the manufacturing overhead budget, the sales and administrative budget, and the capital assets budget to develop the cash budget. Finally, all the information is used to flow to the budgeted balance sheet.

Creating a Master Budget

Molly Malone is starting her own company in which she will produce and sell Molly’s Macaroons. Molly is trying to learn about the budget process as she puts her business plan together. Help Molly by explaining the optimal order for preparing the following budgets and schedules and why this is the optimal order.

  • budgeted balance sheet
  • budgeted income statement
  • capital asset budget
  • cash budget
  • cash collections schedule
  • cash payments schedule
  • direct materials budget
  • direct labor budget
  • master budget
  • manufacturing overhead
  • production budget
  • sales budget
  • selling and administrative budget

A master budget always begins with the sales budget must be prepared first as this determines the number of units that will need to be produced. The next step would be to create the production budget, which helps determine the number of units that will need to be produced each period to meet sales goals. Once Molly knows how many units she will need to produce, she will need to budget the costs associated with those units, which will require her to create the direct materials budget, the direct labor budget and the manufacturing overhead budget. But Molly will have costs other than manufacturing costs so she will need to create a selling and administrative expenses budget. Molly will need to determine what are her capital asset needs and budget for those. Now that Molly has all her revenues budgeted and her costs budgeted, she can determine her budgeted cash inflows and outflows by putting together the cash schedules that lead to the cash budget. Molly will then need to create a cash collections schedule and a cash payments schedule and that information, along with the cash inflow and outflow information from her other budgets, will allow her to create her cash budget. Once Molly has completed her cash budget she will be able to put together her budgeted income statement and budgeted balance sheet.

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Access for free at https://openstax.org/books/principles-managerial-accounting/pages/1-why-it-matters
  • Authors: Mitchell Franklin, Patty Graybeal, Dixon Cooper
  • Publisher/website: OpenStax
  • Book title: Principles of Accounting, Volume 2: Managerial Accounting
  • Publication date: Feb 14, 2019
  • Location: Houston, Texas
  • Book URL: https://openstax.org/books/principles-managerial-accounting/pages/1-why-it-matters
  • Section URL: https://openstax.org/books/principles-managerial-accounting/pages/7-3-prepare-financial-budgets

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Why Business Budget Planning Is So Important

What is a business budget, business budget planning steps, benefits of business budget planning.

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Successful small businesses depend on the effectiveness of a business owner's planning process. One of the most critical elements of the planning process is business budget planning, which is also one of the final stages of the planning process. To begin, you have to gather company financial data, forecasts, and industry analysis to help you build your business budget.

Along with the valuable financial information and analytics, however, you also need to keep the company's general business and strategic plans in mind in order to build your budget.

A business budget is a dynamic, financial plan used to estimate a company's anticipated revenue and expenses for an upcoming time period. It is essentially a financial plan a business makes for a month, quarter, or year. It should be dynamic and flexible so it can be adjusted as business plans and the market environment change.

Business budgets should include every source of revenue, or income, anticipated by a firm along with all possible expenditures the firm might make during a specified time period.

A detailed and realistic budget is one of the most important tools for guiding your business. A budget provides essential information for operating within your means, managing unexpected challenges, and turning a profit. A proper budget will identify available capital, estimate expenditures, and anticipate revenues. Business owners must continually refer to their budget as a way of measuring forecasted budget figures against actual budgetary results in order to know where to make adjustments.

Planning should account for long-term needs as well. For example, if you anticipate a large expenditure one or two years down the road for computer upgrades or equipment maintenance, it's a good idea to start budgeting in advance.

A budget is a foundational  framework for your business finances, detailing past performance and providing a tool for forecasting the fiscal year, or another time period, with a view of assets, revenue, and expenses. Here is an overview of the budgetary process:

Budget Preparation

Budgets enable a business to accurately set goals, priorities, and spending caps, and detail where funding originates and where new strategies might bring revenue into the company coffers. The line items that command the most funding are high-priority items like the sources of revenue and the different types of expenses. These items demand precise bookkeeping and serve as performance indicators of the overall business strategy.

An effective budget should break down revenue and anticipated expenses by month, by quarter, or fiscal year. Depending on the size of your business, it should include separate budgets for each department. These departmental budgets should also be broken down by month or by quarter, and collectively, they will come together to form your  master budget .

The master budget is a comprehensive financial plan based on the strategic plan of the business firm. It is composed of two sub-budgets—the operating budget and the financial budget . Each of these includes a number of more specific budgets.

Businesses that rely heavily on seasonal sales revenue serve as a good example of why a budget is so important. If the months of June, July, August, and December typically generate 75% of your business's revenue, your budget will allow you to plan ahead. Having a strategy for distributing your revenue most effectively over the course of a full fiscal year will help maximize profits.

Budget to Evaluate Company Performance

In addition to being an important part of the planning process, budgets are necessary for evaluating the performance of your company over the course of each fiscal year. Common types of budgeting in business are:

  • Static budgets : Static budgets are a type of operating budget that uses historical financial data to budget for revenue and expenses expected in the next time period. Typically used by very small businesses, these budgets require taking each line item and adding a percentage increase or decrease to it to reflect the next budget.
  • Performance-based budgeting : This type of budget takes into account the inputs and outputs per unit of product or service in order to achieve maximum efficiency.
  • Zero-based budgeting : A zero-based budget starts from scratch every time period and builds a new budget based on the conditions at that time. In other words, it starts from zero for each line item and uses internal and industry financial data to build the budget.
  • Variance analysis : A variance-based budget is one where actual and expected values for every revenue and expense item are calculated. The results are used to try to bring the budget items back within a certain range and achieve improved efficiency

The use of one of these types of company budgets can be another tool for the financial analysis of the firm.

For example, if sales in the first quarter are lower than what you budgeted, you'll know to find expenses to cut later in the fiscal year in order to stay profitable. A more positive example might be sales of a new product that exceeds expectations. By tracking this trend and comparing it to what was budgeted, you will see that you have the additional revenue to perhaps revise the budget with plans to increase production or hire additional staff to handle the extra business.

Budget to Obtain Financing

A history of writing sound, detailed budgets and sticking to them can help show lenders or potential investors that you can develop a business plan and make it work.

Lenders and investors want to dig deeply into your finances and history. If they don't see evidence of strong budgeting practices, it might be a red flag that would turn them away.

If you're opening a new business and have little or no history, you need to make up for that lack of a track record with detailed support for your budget. This means doing research on the marketplace and showing how past trends or, perhaps a void in the industry, supports the numbers you present. This kind of attention to detail can help you gain serious consideration from lenders or investors.

Staffing for Budgeting

Even small businesses with only a few employees need to make sure they're staffed properly for writing and maintaining a budget. If, for example, you own and operate a small cafe, you might have a unique menu and a reputation for quality customer service, but that doesn't mean you're a financial professional.

If hiring a full-time person to handle your budget and other financial affairs is not realistic, consider part-time help or working with an outside consulting firm, especially early on and annually when it comes time to write a new budget for the next fiscal year. SCORE , a business mentorship organization affiliated with the U.S. Small Business Administration (SBA), is made up largely of volunteers with backgrounds in business and finance who provide guidance and advice to small businesses. This can be a valuable resource when you're just getting started or when you're confronted with a significant challenge. In addition to helping with budgeting or other problems, organizations like SCORE can put you in touch with other resources in your community.

Budgeting Software

Some of the best tools for writing a detailed budget and sticking to it are software programs, and they go beyond just Microsoft Excel or other spreadsheet programs. Some of the most useful budget software programs are:

  • QuickBooks : One of the most user-friendly and inexpensive software programs that include budgeting.
  • Budgyt : A user-friendly budget software program allowing for more than one profit and loss statement.
  • PlanningMaestro by Centage : A cloud-based budgeting software program, including forecasting, for small and medium-sized businesses.

In addition, you already might be utilizing PayPal, Square, or other similar online services with your point-of-sale (POS) system . And like the software programs above, they offer tools for writing a budget and tracking revenue and expenses.

When looking for a budgeting software program, you usually want to look for these features:

  • Departmentalized budgeting : Gives you the ability to create budgets by department, division, or profit center and merge them all into the master budget.
  • Collaboration : Gives more than one person in your organization the ability to work on the budgetary planning process.
  • Variance comparison : Gives you the ability to see actual vs. budgeted amounts on a line-by-line basis.

If a business does not develop a budget, it will face a host of problems. It is, effectively, flying blind if it is not aware how much revenue to expect or expenses to plan to during a given time period. Such a business will likely fail within the first two years after it opens.

The benefits of business budget planning are many. Here are some of the most important:

  • Financial health : Without a business budget, it is impossible for you to know the financial health of your company. You will have no idea if you met or exceeded your goals.
  • Strategic planning : A business budget allows you to develop a strategic plan since you will know the answer to issues like whether you can expand.
  • Obtain debt financing : If a small business tries to obtain debt financing from a bank or other financial institution, it must produce a budget to show potential lenders.
  • Attract investors : If a business wants to attract investors in the business, those investors will not put their money into the business unless they can see a budget.
  • Tax preparation : A business budget assists in the preparation of income, sales, and payroll taxes.
  • Decision making : In order to make decisions about any facet of the business, you have to know how much money is allocated to that item.

Corporate Finance Institute. " Types of Budgets ." Accessed March 9, 2021.

eFinance Management. " Variance Analysis ." Accessed March 9, 2021.

CompareCamp. " Best Budgeting Software - 2021 List of Top 10 Budgeting Software Tools ." Accessed March 9, 2021.

Business and Finance Experts Column. " The Benefits of Budgeting in a Business ." Accessed March 9, 2021.

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5: Financial Plans- Budgets

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This chapter demonstrates how organized financial data can be used to create a plan, monitor progress, and adjust goals.

  • 5.1: Introduction to Budgets
  • 5.2: The Budget Process
  • 5.3: Creating the Comprehensive Budget
  • 5.4: The Cash Budget and Other Specialized Budgets
  • 5.5: Budget Variances
  • 5.6: Budgets, Financial Statements and Financial Decisions
  • Sources of Business Finance
  • Small Business Loans
  • Small Business Grants
  • Crowdfunding Sites
  • How to Get a Business Loan
  • Small Business Insurance Providers
  • Best Factoring Companies
  • Types of Bank Accounts
  • Best Banks for Small Business
  • Best Business Bank Accounts
  • Open a Business Bank Account
  • Bank Accounts for Small Businesses
  • Free Business Checking Accounts
  • Best Business Credit Cards
  • Get a Business Credit Card
  • Business Credit Cards for Bad Credit
  • Build Business Credit Fast
  • Business Loan Eligibility Criteria
  • Small-Business Bookkeeping Basics
  • How to Set Financial Goals
  • Business Loan Calculators
  • How to Calculate ROI
  • Calculate Net Income
  • Calculate Working Capital
  • Calculate Operating Income
  • Calculate Net Present Value (NPV)
  • Calculate Payroll Tax

12 Key Elements of a Business Plan (Top Components Explained)

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Starting and running a successful business requires proper planning and execution of effective business tactics and strategies .

You need to prepare many essential business documents when starting a business for maximum success; the business plan is one such document.

When creating a business, you want to achieve business objectives and financial goals like productivity, profitability, and business growth. You need an effective business plan to help you get to your desired business destination.

Even if you are already running a business, the proper understanding and review of the key elements of a business plan help you navigate potential crises and obstacles.

This article will teach you why the business document is at the core of any successful business and its key elements you can not avoid.

Let’s get started.

Why Are Business Plans Important?

Business plans are practical steps or guidelines that usually outline what companies need to do to reach their goals. They are essential documents for any business wanting to grow and thrive in a highly-competitive business environment .

1. Proves Your Business Viability

A business plan gives companies an idea of how viable they are and what actions they need to take to grow and reach their financial targets. With a well-written and clearly defined business plan, your business is better positioned to meet its goals.

2. Guides You Throughout the Business Cycle

A business plan is not just important at the start of a business. As a business owner, you must draw up a business plan to remain relevant throughout the business cycle .

During the starting phase of your business, a business plan helps bring your ideas into reality. A solid business plan can secure funding from lenders and investors.

After successfully setting up your business, the next phase is management. Your business plan still has a role to play in this phase, as it assists in communicating your business vision to employees and external partners.

Essentially, your business plan needs to be flexible enough to adapt to changes in the needs of your business.

3. Helps You Make Better Business Decisions

As a business owner, you are involved in an endless decision-making cycle. Your business plan helps you find answers to your most crucial business decisions.

A robust business plan helps you settle your major business components before you launch your product, such as your marketing and sales strategy and competitive advantage.

4. Eliminates Big Mistakes

Many small businesses fail within their first five years for several reasons: lack of financing, stiff competition, low market need, inadequate teams, and inefficient pricing strategy.

Creating an effective plan helps you eliminate these big mistakes that lead to businesses' decline. Every business plan element is crucial for helping you avoid potential mistakes before they happen.

5. Secures Financing and Attracts Top Talents

Having an effective plan increases your chances of securing business loans. One of the essential requirements many lenders ask for to grant your loan request is your business plan.

A business plan helps investors feel confident that your business can attract a significant return on investments ( ROI ).

You can attract and retain top-quality talents with a clear business plan. It inspires your employees and keeps them aligned to achieve your strategic business goals.

Key Elements of Business Plan

Starting and running a successful business requires well-laid actions and supporting documents that better position a company to achieve its business goals and maximize success.

A business plan is a written document with relevant information detailing business objectives and how it intends to achieve its goals.

With an effective business plan, investors, lenders, and potential partners understand your organizational structure and goals, usually around profitability, productivity, and growth.

Every successful business plan is made up of key components that help solidify the efficacy of the business plan in delivering on what it was created to do.

Here are some of the components of an effective business plan.

1. Executive Summary

One of the key elements of a business plan is the executive summary. Write the executive summary as part of the concluding topics in the business plan. Creating an executive summary with all the facts and information available is easier.

In the overall business plan document, the executive summary should be at the forefront of the business plan. It helps set the tone for readers on what to expect from the business plan.

A well-written executive summary includes all vital information about the organization's operations, making it easy for a reader to understand.

The key points that need to be acted upon are highlighted in the executive summary. They should be well spelled out to make decisions easy for the management team.

A good and compelling executive summary points out a company's mission statement and a brief description of its products and services.

Executive Summary of the Business Plan

An executive summary summarizes a business's expected value proposition to distinct customer segments. It highlights the other key elements to be discussed during the rest of the business plan.

Including your prior experiences as an entrepreneur is a good idea in drawing up an executive summary for your business. A brief but detailed explanation of why you decided to start the business in the first place is essential.

Adding your company's mission statement in your executive summary cannot be overemphasized. It creates a culture that defines how employees and all individuals associated with your company abide when carrying out its related processes and operations.

Your executive summary should be brief and detailed to catch readers' attention and encourage them to learn more about your company.

Components of an Executive Summary

Here are some of the information that makes up an executive summary:

  • The name and location of your company
  • Products and services offered by your company
  • Mission and vision statements
  • Success factors of your business plan

2. Business Description

Your business description needs to be exciting and captivating as it is the formal introduction a reader gets about your company.

What your company aims to provide, its products and services, goals and objectives, target audience , and potential customers it plans to serve need to be highlighted in your business description.

A company description helps point out notable qualities that make your company stand out from other businesses in the industry. It details its unique strengths and the competitive advantages that give it an edge to succeed over its direct and indirect competitors.

Spell out how your business aims to deliver on the particular needs and wants of identified customers in your company description, as well as the particular industry and target market of the particular focus of the company.

Include trends and significant competitors within your particular industry in your company description. Your business description should contain what sets your company apart from other businesses and provides it with the needed competitive advantage.

In essence, if there is any area in your business plan where you need to brag about your business, your company description provides that unique opportunity as readers look to get a high-level overview.

Components of a Business Description

Your business description needs to contain these categories of information.

  • Business location
  • The legal structure of your business
  • Summary of your business’s short and long-term goals

3. Market Analysis

The market analysis section should be solely based on analytical research as it details trends particular to the market you want to penetrate.

Graphs, spreadsheets, and histograms are handy data and statistical tools you need to utilize in your market analysis. They make it easy to understand the relationship between your current ideas and the future goals you have for the business.

All details about the target customers you plan to sell products or services should be in the market analysis section. It helps readers with a helpful overview of the market.

In your market analysis, you provide the needed data and statistics about industry and market share, the identified strengths in your company description, and compare them against other businesses in the same industry.

The market analysis section aims to define your target audience and estimate how your product or service would fare with these identified audiences.

Components of Market Analysis

Market analysis helps visualize a target market by researching and identifying the primary target audience of your company and detailing steps and plans based on your audience location.

Obtaining this information through market research is essential as it helps shape how your business achieves its short-term and long-term goals.

Market Analysis Factors

Here are some of the factors to be included in your market analysis.

  • The geographical location of your target market
  • Needs of your target market and how your products and services can meet those needs
  • Demographics of your target audience

Components of the Market Analysis Section

Here is some of the information to be included in your market analysis.

  • Industry description and statistics
  • Demographics and profile of target customers
  • Marketing data for your products and services
  • Detailed evaluation of your competitors

4. Marketing Plan

A marketing plan defines how your business aims to reach its target customers, generate sales leads, and, ultimately, make sales.

Promotion is at the center of any successful marketing plan. It is a series of steps to pitch a product or service to a larger audience to generate engagement. Note that the marketing strategy for a business should not be stagnant and must evolve depending on its outcome.

Include the budgetary requirement for successfully implementing your marketing plan in this section to make it easy for readers to measure your marketing plan's impact in terms of numbers.

The information to include in your marketing plan includes marketing and promotion strategies, pricing plans and strategies , and sales proposals. You need to include how you intend to get customers to return and make repeat purchases in your business plan.

Marketing Strategy vs Marketing Plan

5. Sales Strategy

Sales strategy defines how you intend to get your product or service to your target customers and works hand in hand with your business marketing strategy.

Your sales strategy approach should not be complex. Break it down into simple and understandable steps to promote your product or service to target customers.

Apart from the steps to promote your product or service, define the budget you need to implement your sales strategies and the number of sales reps needed to help the business assist in direct sales.

Your sales strategy should be specific on what you need and how you intend to deliver on your sales targets, where numbers are reflected to make it easier for readers to understand and relate better.

Sales Strategy

6. Competitive Analysis

Providing transparent and honest information, even with direct and indirect competitors, defines a good business plan. Provide the reader with a clear picture of your rank against major competitors.

Identifying your competitors' weaknesses and strengths is useful in drawing up a market analysis. It is one information investors look out for when assessing business plans.

Competitive Analysis Framework

The competitive analysis section clearly defines the notable differences between your company and your competitors as measured against their strengths and weaknesses.

This section should define the following:

  • Your competitors' identified advantages in the market
  • How do you plan to set up your company to challenge your competitors’ advantage and gain grounds from them?
  • The standout qualities that distinguish you from other companies
  • Potential bottlenecks you have identified that have plagued competitors in the same industry and how you intend to overcome these bottlenecks

In your business plan, you need to prove your industry knowledge to anyone who reads your business plan. The competitive analysis section is designed for that purpose.

7. Management and Organization

Management and organization are key components of a business plan. They define its structure and how it is positioned to run.

Whether you intend to run a sole proprietorship, general or limited partnership, or corporation, the legal structure of your business needs to be clearly defined in your business plan.

Use an organizational chart that illustrates the hierarchy of operations of your company and spells out separate departments and their roles and functions in this business plan section.

The management and organization section includes profiles of advisors, board of directors, and executive team members and their roles and responsibilities in guaranteeing the company's success.

Apparent factors that influence your company's corporate culture, such as human resources requirements and legal structure, should be well defined in the management and organization section.

Defining the business's chain of command if you are not a sole proprietor is necessary. It leaves room for little or no confusion about who is in charge or responsible during business operations.

This section provides relevant information on how the management team intends to help employees maximize their strengths and address their identified weaknesses to help all quarters improve for the business's success.

8. Products and Services

This business plan section describes what a company has to offer regarding products and services to the maximum benefit and satisfaction of its target market.

Boldly spell out pending patents or copyright products and intellectual property in this section alongside costs, expected sales revenue, research and development, and competitors' advantage as an overview.

At this stage of your business plan, the reader needs to know what your business plans to produce and sell and the benefits these products offer in meeting customers' needs.

The supply network of your business product, production costs, and how you intend to sell the products are crucial components of the products and services section.

Investors are always keen on this information to help them reach a balanced assessment of if investing in your business is risky or offer benefits to them.

You need to create a link in this section on how your products or services are designed to meet the market's needs and how you intend to keep those customers and carve out a market share for your company.

Repeat purchases are the backing that a successful business relies on and measure how much customers are into what your company is offering.

This section is more like an expansion of the executive summary section. You need to analyze each product or service under the business.

9. Operating Plan

An operations plan describes how you plan to carry out your business operations and processes.

The operating plan for your business should include:

  • Information about how your company plans to carry out its operations.
  • The base location from which your company intends to operate.
  • The number of employees to be utilized and other information about your company's operations.
  • Key business processes.

This section should highlight how your organization is set up to run. You can also introduce your company's management team in this section, alongside their skills, roles, and responsibilities in the company.

The best way to introduce the company team is by drawing up an organizational chart that effectively maps out an organization's rank and chain of command.

What should be spelled out to readers when they come across this business plan section is how the business plans to operate day-in and day-out successfully.

10. Financial Projections and Assumptions

Bringing your great business ideas into reality is why business plans are important. They help create a sustainable and viable business.

The financial section of your business plan offers significant value. A business uses a financial plan to solve all its financial concerns, which usually involves startup costs, labor expenses, financial projections, and funding and investor pitches.

All key assumptions about the business finances need to be listed alongside the business financial projection, and changes to be made on the assumptions side until it balances with the projection for the business.

The financial plan should also include how the business plans to generate income and the capital expenditure budgets that tend to eat into the budget to arrive at an accurate cash flow projection for the business.

Base your financial goals and expectations on extensive market research backed with relevant financial statements for the relevant period.

Examples of financial statements you can include in the financial projections and assumptions section of your business plan include:

  • Projected income statements
  • Cash flow statements
  • Balance sheets
  • Income statements

Revealing the financial goals and potentials of the business is what the financial projection and assumption section of your business plan is all about. It needs to be purely based on facts that can be measurable and attainable.

11. Request For Funding

The request for funding section focuses on the amount of money needed to set up your business and underlying plans for raising the money required. This section includes plans for utilizing the funds for your business's operational and manufacturing processes.

When seeking funding, a reasonable timeline is required alongside it. If the need arises for additional funding to complete other business-related projects, you are not left scampering and desperate for funds.

If you do not have the funds to start up your business, then you should devote a whole section of your business plan to explaining the amount of money you need and how you plan to utilize every penny of the funds. You need to explain it in detail for a future funding request.

When an investor picks up your business plan to analyze it, with all your plans for the funds well spelled out, they are motivated to invest as they have gotten a backing guarantee from your funding request section.

Include timelines and plans for how you intend to repay the loans received in your funding request section. This addition keeps investors assured that they could recoup their investment in the business.

12. Exhibits and Appendices

Exhibits and appendices comprise the final section of your business plan and contain all supporting documents for other sections of the business plan.

Some of the documents that comprise the exhibits and appendices section includes:

  • Legal documents
  • Licenses and permits
  • Credit histories
  • Customer lists

The choice of what additional document to include in your business plan to support your statements depends mainly on the intended audience of your business plan. Hence, it is better to play it safe and not leave anything out when drawing up the appendix and exhibit section.

Supporting documentation is particularly helpful when you need funding or support for your business. This section provides investors with a clearer understanding of the research that backs the claims made in your business plan.

There are key points to include in the appendix and exhibits section of your business plan.

  • The management team and other stakeholders resume
  • Marketing research
  • Permits and relevant legal documents
  • Financial documents

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Martin loves entrepreneurship and has helped dozens of entrepreneurs by validating the business idea, finding scalable customer acquisition channels, and building a data-driven organization. During his time working in investment banking, tech startups, and industry-leading companies he gained extensive knowledge in using different software tools to optimize business processes.

This insights and his love for researching SaaS products enables him to provide in-depth, fact-based software reviews to enable software buyers make better decisions.

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How to Prepare a Cash Budget for a New Business

the most important element of a business plan's financial plan is the cash budget which shows

Written by True Tamplin, BSc, CEPF®

Reviewed by subject matter experts.

Updated on April 04, 2023

Fact Checked

Why Trust Finance Strategists?

Table of Contents

This article shows how to build up a cash budget using the receipts and payments account .

We'll start by looking at the cash budget for a new trading organization, helping us to get a clear idea of the main principles.

We'll also see how the cash budget fits in with the budgeted profit and loss account and balance sheet .

Later on, we'll examine how to build on our technique to develop cash budgets for existing businesses by incorporating data from the opening balance sheet.

Basic Process of Preparing a Cash Budget

Linking with other budgets.

The data used to create all budgets must be consistent. This ensures that all budgets are based on the same assumptions.

We will find that much of the data needed for a cash budget can be found in a budgeted profit and loss account, if this has already been prepared.

However, the key to accurate cash budgets is to remember that receipts and payments are based on when the receipts and payments occur, and therefore most of the figures in the budgeted profit and loss account will need analyzing or modifying.

When we receive or pay cash at a different time to the recording of the sale , purchase , or expense , this is known as lagging.

It is these lagged figures—based on the time of the receipt or payment—that we will use in our cash budget.

For example, if credit sales of $10,000 were made in January on two months' credit, then the money will be received in March.

Although the sale would be recorded in the profit and loss account in January, it must appear in the March column in the cash budget.

A cash budget will not show any non-cash items that appear in the budgeted profit and loss account; the most common example of this is depreciation .

There are also items that will appear in the cash budget, but are not shown in the budgeted profit and loss account.

These are capital items (purchase or disposal of fixed assets), disbursements like drawings and tax, and exceptional items like financing ( funds from equity or loans).

The diagram below shows how the data in a simple cash budget links with the data used in other budgets.

Data Requirements in Budgets

In the case study below, we'll consider how a simple cash budget can be generated for a new business. To do so, we'll use the sources of data shown in the diagram above.

First Trade Ltd. Simple Cash Budget

Jim First is planning to start a trading business, First Trade Ltd. He has prepared the following budgeted profit and loss account for the initial four months of trading.

Jim First: Budgeted Profit & Loss Account

Preparing a cash budget - case study

Jim has also provided the following information about his plans:

  • Sales are made on two months' credit. The sales figures in the budgeted profit and loss account are based on monthly sales as follows:

Sales Figures

  • Purchases made in the first month must be paid for immediately. Subsequent purchases will be on one month's credit. The purchases figure in the budgeted profit and loss account is made up as follows:

Purchases Figures

  • Cash expenses are based on paying out $1,000 in each of the first four months of the business.
  • Equipment is to be bought for $15,000 in the first month of the business. The depreciation shown in the budgeted profit and loss account is based on depreciating these fixed assets at 20% per year on a straight-line basis.
  • Jim has $25,000 to invest in the business in month 1. The business has no opening cash balance.
  • Jim wishes to withdraw $2,000 from the business in month 4.

Required: Prepare a cash budget in the receipts and payments format for the first four months trading of First Trade.

The cash budget is prepared in the following way:

  • First, the capital invested is entered as a receipt in month 1.
  • Second, the receipts from sales are entered on the appropriate line, taking account of the two months' credit by lagging the receipts by two months (i.e., sales for months 1 and 2 are received in months 3 and 4). Note that the sales made in months 3 and 4 do not appear on this cash budget as the money will not be received until months 5 and 6.
  • Third, the payments for purchases and expenses are entered into the appropriate lines, using the data on payment terms. Remember that the first month's purchases are paid for in month 1 and subsequent purchases are given one month's credit.
  • Fourth, the payments for fixed assets and drawings are entered as required.
  • Fifth, the receipts and payments totals are completed, and each month's cash flow is calculated (i.e., total receipts minus total payments).
  • Sixth, the bank balance brought forward for month 1 is inserted (here, it is zero).
  • Finally, the carried forward bank balance for each month is calculated. This is based on the calculation for each month using the following formula:

Cash flow for month + Bank balance brought forward = Bank balance carried forward

The closing bank balance (bank balance carried forward) for one month is then entered as the opening bank balance for the following month (bank balance brought forward).

Cash Budget First Trade Ltd. Months 1-4

The cash budget shows that if everything goes according to plan, Jim's business bank balance will be $3,000 in credit at the end of month 1, but will fall to an overdrawn balance of $2,000 by the end of month 4.

Therefore, Jim should make suitable financial arrangements if he wishes to follow this budget.

He should also consider the impact of unforeseen events (e.g., sales may be lower than forecasted and expenses may be higher).

This type of "what-if?" planning process is referred to as sensitivity analysis .

Linking Cash Budget With the Budgeted Balance Sheet

Cash budget and master budget.

A full set of budgets for an organization includes a budgeted balance sheet at the end of the budget period , as well as a budgeted profit and loss account and cash budget.

The budgeted balance sheet is based on the same format as the historical balance sheet produced for financial accounting purposes; however, is based in the future.

It is a statement of the expected assets , liabilities and capital at the end of the budgeting period.

Because this document will tie in with the other two main budgets, it incorporates the profit generated in the budgeted profit and loss account, along with the final cash or bank balance as predicted in the cash budget.

The budgeted profit and loss account and the budgeted balance sheet are together known as the master budget.

Subsidiary Budgets

Several subsidiary budgets often have to be created in more complex businesses in order to build up sufficient information to create the master budget and the budgeted cash flow statement .

Examples of subsidiary budgets include the sales budget , production budget , and materials usage budget.

Cash Budget and Budgeted Balance Sheet

To understand how cash budgets work, we need to be able to create a budgeted balance sheet either in full or in extract form.

By creating a full-budgeted balance sheet, we can also check that our budgets link together properly and that the final result balances.

Of special importance are the following links between the cash budget and the budgeted balance sheet at the end of the budget period:

  • The figure for debtors in the budgeted balance sheet will represent the credit sales made that have not yet been received in cash. These are typically the sales for the final period(s) where receipts do not appear in the cash budget.
  • The cash/bank figure in the budgeted balance sheet will be taken directly from the final cash/bank balance in the cash budget. If this is a negative figure, it will be recorded as an overdraft under current liabilities .
  • The trade creditors figure in the budgeted balance sheet will represent the credit purchases (and possibly expenses) that were made in the budget period, but are unpaid at the period end.

Regarding the final link mentioned above, in a similar way to sales, these are typically the purchases or expenses for the final period(s) that do not appear in the cash budget.

At this point, let's return to the case study of First Trade Ltd. to see how the budgeted balance sheet can be developed in practice.

First Trade Ltd. Preparing a Budgeted Balance Sheet

As described in the first case study, Jim First is planning to start a trading business.

Jim has prepared a budgeted profit and loss account for the initial four months trading, showing a budgeted profit of $3,000. A cash budget has also been prepared that shows an overdrawn bank balance of $2,000 at the end of month 4.

Required: Prepare a budgeted balance sheet for the end of month 4.

The budgeted balance sheet is shown below. Notes are also given to show how each figure was calculated.

Cash Budget and Budgeted Balance Sheet - Case Study

(1) The fixed assets were bought in month 1. They are valued at cost , less the depreciation shown in the budgeted profit and loss account (i.e., since this is also the cumulative depreciation).

(2) The stock figure is the closing stock used in the budgeted profit and loss account.

(3) The debtors figure is made up of the sales for months 3 and 4 ($5,000 + $7,000). The proceeds of these sales will not have been received within the budget period since the sales are made on 2 months' credit.

(4) The trade creditors figure is the month 4 purchases that are not due to be paid until month 5.

(5) The bank overdraft is the final closing balance on the cash budget.

(6) The budgeted profit is as recorded on the budgeted profit and loss account.

(7) The budgeted drawings are as recorded in the cash budget.

It is worthwhile to examine the above figures and notes, ensuring that you understand how the figures were arrived at.

Note that the budgeted balance sheet should balance when the data are used consistently.

How to Prepare a Cash Budget for a New Business FAQs

How do i know whether i should create a cash budget or not.

A cash budget should be prepared if the company expects to have a negative cash flow for the budget period. This means that the company will need to borrow money, or raise capital from other sources, in order to finance its operations.

How do I project my sales?

When projecting your sales, you should consider the following factors:- the current market conditions- your company’s competitive environment- the expected demand for your products or services

How do I project my expenses?

You should project your expenses by considering the following factors:- the current market conditions- your company’s competitive environment- the expected demand for your products or services- the likely changes in your costs of goods sold or operating expenses.

What if I don’t have enough information to project my sales and expenses?

If you don’t have enough information to project your sales and expenses, you should estimate them. If this is the case, you should include an explanation on your cash budget to indicate why they are estimates.

What information do I need to prepare a cash budget?

A company that monitors its cash position regularly will already have much of the information required for preparing a cash budget on hand. This information can be used to prepare a cash budget. For those that don’t monitor their cash position regularly, you should start by determining whether your business will have a negative or positive cash flow for the budget period.

About the Author

True Tamplin, BSc, CEPF®

True Tamplin is a published author, public speaker, CEO of UpDigital, and founder of Finance Strategists.

True is a Certified Educator in Personal Finance (CEPF®), author of The Handy Financial Ratios Guide , a member of the Society for Advancing Business Editing and Writing, contributes to his financial education site, Finance Strategists, and has spoken to various financial communities such as the CFA Institute, as well as university students like his Alma mater, Biola University , where he received a bachelor of science in business and data analytics.

To learn more about True, visit his personal website or view his author profiles on Amazon , Nasdaq and Forbes .

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While your incredible, unique, surefire business idea will be sure to captivate investors, you won’t get very far in finding financial support unless you can also tell its financial story. That’s the purpose of your business financial plan—to show your potential funders what a good bet this is. You aren’t just a dreamer. You’re a doer . You’re business financial plan shows this.

“The goal is to show your lender that you are a reliable and resilient borrower to give them confidence in their decision,” Bill Phelan, CEO of PayNet , an Equifax Company, told Foundr.

Foundr understands that this part of getting your business off the ground can be intimidating. You might even be tempted to put it off or ignore it entirely, hoping a magical unicorn will notice how hard you’re working and how good your idea is and just pop up with a check.

Come on back to reality and let’s do this.

On the major plus side, this endeavor doesn’t only serve the people who are holding the cash you need. Creating the five elements of your business financial plan (income forecast, expense budget, cash flow snapshot, assets and liabilities disclosure, and break even analysis) serves you .

Writing your business financial plan forces you to take an honest look at what you’re about to attempt. You’ll have to think not just about today’s exciting idea, but the intricacies of how that idea will come to fruition in a nearby tomorrow.

Chances are high that you will spot any potential financial pitfalls as you create this plan, instead of crashing into them six months from now and watching all your work go down in flames.

This isn’t rocket science, it’s entrepreneurship. And you’re here for that—for all of that—right?

Then let’s get to it.

Elements of a Business Financial Plan, Explained

Financial plans typically include five elements:

  • Income forecast
  • Expense budget
  • Cash flow snapshot
  • Assets and liabilities disclosure
  • Break even analysis

The exact order and terminology may vary, but the information that should be included boils down to those five areas. Let’s walk through each one and you’ll see how simple this is.

Sales Forecast

Just write, “I’m going to make a million dollars in three weeks!”

Do not write that, or anything remotely resembling it. Yes, even if you just know that it is absolutely 100% true for your amazing idea.

The sales forecast is your opportunity to show a lender or investor that you are not a starry-eyed dilettante who will blow through their cash. This is your moment to be reasonable and mature. Feel free to drink a cup of tea (pinky raised) and speak in a lofty British accent while you write out the list of ways you will make money. Is it product sales? Advertising? Memberships?

Now, the time has come to validate your dreams with a warm, comforting coat of research-based estimates. Find a product or service that is similar to yours. Now find two more. Look at the sales of those products or services. Consider how they are each similar to or different than yours. What do you plan to do differently? How will your product or service cause a different reaction in the market?

Now assign sales figures to each item listed in your income source list, based on similar sales in your industry and  your reflection on your idea’s potential compared to their reality. Keep in mind that your numbers here are not set in stone. They are your  informed best estimate,  and you will explain how you arrived at that estimate when you sit with a lender or investor discussing the plan you’re now writing.

For instance, let’s say you have designed a beautiful, one-of-a-kind fork. It provides all the services of the billions of existing forks on the planet—but it also records how many calories it forks into your mouth and reports those to the health app on your iPhone. (Also, it’s dishwasher safe!)

You could research sales of forks and sales of health gadgets, then use the information from that to form best guesses for how your new Fork Dork could sell.

Later, when you’re sitting with Mrs. Josephine Banker and telling her how you need a $2.3 million loan to create a prototype, you will be able to say, “Look at all the forks that sell every year already, Mrs. Banker. Obviously, forks are in major use. Now take a look at the billions that are spent on calorie counters and food trackers. See what a credible profit potential this holds?”

Insider word of advice: Once you’ve created your estimate, cut it by 20%.

Trust me on this.

That way, when you’re sitting with Mr. Igor Investor, you’ll be able to say, “To be conservative and reasonable, I lowered my projections by 20%.” He’s going to appreciate this display of reason and perhaps attach more credibility, not only to your entire financial business plan, but to your business idea as a whole.

sales forecast

And here are some of the fun graphs that can be made with sales projections.

sales projection

Download templates to create your own sales projection worksheets and charts at vertex42.com. Find the sales projection worksheets here .

Expense Budget

Wouldn’t it be awesome if you had every dollar you needed before you needed it to build your business? What a fun fantasy.

And that’s all it will be, unless you put fantasy to paper. For your next business financial plan element, you’ll create an expense budget.

This is not the place to skimp or ignore . Here’s your opportunity to ask for everything you envision needing. You may not get it all, but you should absolutely include it all in the ask.

Remember that this is your opportunity to show how reasonable and logical you are. So, while you will include every potential expense you can imagine, you will also refrain from granting yourself a million dollar salary in the first six weeks with a half million dollar bonus two weeks later.

Be realistic. Learn to pronounce “boot strap” and “grow to go” (yes, you can do it in that British accent you perfected during the income forecasting).

In your expense budget, you’ll list salaries, contract worker fees, costs for equipment, research, office rent, supplies, software, subscriptions, travel, and more.

If this is your first go-round, a strong word of advice: Don’t forget to budget for legal (attorneys), accounting (bookkeepers and tax professionals), and tax payments (on payroll and sales). Some founders think they can skimp on these areas and squeak through with fingers crossed.

But if you want to build a business financial plan that reflects a mature, responsible approach (and not ruin yourself financially if this doesn’t work out), then you will include money for attorneys, accountants, and the government’s cut.

Also, include a line item for contingencies and miscellaneous. It should be 10-20% of your entire expense budget. So, if you tallied up everything you anticipate needing to spend for the year and it comes to $1 million, add $100,000-$200,000 in the “contingencies/miscellaneous” column.

It will feel excessive.

Mrs. Banker and Mr. Investor know it is not.

It is, instead, the line they know you will pull from when something unexpected inevitably happens, and that means you will most likely not be coming in their door with your hand out again.

For my fellow visual learners, here’s an example of an expense budget:

2020 expense budget

Cash Flow Snapshot

Now that you’ve thought through where the money is coming from and where it’s going, you can create a Cash Flow Snapshot. This document gives you an idea of how much money you’ll have on hand for operations on any given day. It also lets your lender or investor see why you need operational money to get (or keep) going.

At first, the Cash Flow Snapshot can seem redundant. If 1,000 Fork Dorks are projected to sell in August for $40 each, then August income is $40,000, right?

Well, who bought the Fork Dorks? (There’s another business idea: a band called “Who Bought the Fork Dorks?”) If wholesalers bought them to re-sell in stores, then they might not be paying you for your product for 30, 60, or 90 days. So, $40,000 of product can go out in August, but it could be November before that $40,000 comes in as income. This is accrual accounting and something you can talk about with the accountant you intend to hire because you are a serious entrepreneur. By using accrual accounting to create your Cash Flow Snapshot, you’ll see that, if there is no other source of income than that $40,000 sale in August, the busy workers in the factory making Fork Dorks might well walk off the job.

You’d wind up Fork Dork-less!

Also, you’d be back in the banker or investor’s office with your hand out and a sheepish expression, explaining how you really, really are a smart, serious, trustworthy entrepreneur but you didn’t take into account something as simple as the gap between sale and payment.

Aren’t Cash Flow Snapshots awesome?

Visual learners, here’s your example of a blank Cash Flow Snapshot  (download a template from SCORE here ):

12 Month Cash Flow

Assets and Liabilities Sheet (aka Balance Sheet)

Okay, so we have a sheet that shows where the money is coming from, another one that shows where the money is being spent, and another that shows the ebb and flow of all that in monthly time. Lovely!

Now you’ll incorporate in whatever Mrs. Banker, Mr. Investor, and you have put into the business, as well as other elements, to create your Assets and Liabilities Sheet.

Assets include the money you have in the bank (both pennies!), the money that’s coming in (that $40,000 in November), the value of what you could sell but haven’t yet ($100,000 worth of Fork Dorks sitting on your warehouse shelves), Mr. Igor’s investments, any other investments (don’t group short-term and long-term investments into one line), any real estate or vehicles the company owns, any equipment—basically anything the company owns that could be sold for money.

Liabilities include everything the company owes. Imagine the company goes belly up. Now think about who would be owed money. Mrs. Banker’s loan (and interest that would be due). Payroll and taxes for your employees. Contracted worker fees. Other contracted fees (e.g. office rent for the remainder of the lease). List all of these in the liabilities section.

To figure out the net worth of your company, subtract your liabilities from your assets. For instance, if you owe $100,000 (liabilities) and you have $200,000 in assets, then your company’s net worth is $100,000. This is also called the owner’s equity  because it’s the value of what the owners own by being owners of this business.

The Assets and Liabilities Sheet shows how the net worth of your business/owner’s equity changes from month to month or year to year as you pay off the liabilities and accrue assets.

Resist the urge to rub your hands together and giggle as you see the number head into a positive range and grow.

Well, go ahead, nobody’s watching. But only for a second.

Visual learners, here’s your example of an Assets and Liabilities Sheet  (download a template to create yours from Vertex42 here ):

balance sheet

Break Even Analysis

At last, you have reached the Final Frontier. Okay, not really. You’ve just come to the final element of writing a business financial plan: the Break Even Analysis.

This document is exactly what it sounds like, a reflection of when your company is going into the black and not going back. At what point do the numbers reflect that your company is making more than it’s spending? Mr. Investor is particularly interested in this part because it shows him when and how his gamble might pay off.

Remember how you absolutely, 100% are not going to show your sales hitting $1 million in three weeks? (If you’ve already forgotten that part of this article, then you might need to pause here and go Google “ginkgo biloba.”) A big reason for that is to avoid a “hockey stick” in your break even analysis.

They look like this:

hockey stick” break even analysis

Now, before a bunch of pucks get thrown at the Foundr offices, let’s be clear that this is not a bias against hockey. No, this is a bias against unrealistic expectations and projections (aka googly-eyed entrepreneurs). Put your most posh British accent back on and tell yourself, “I must be reasonable.”

Now create a spreadsheet that shows when your income moves beyond your expenses and stays there.

Here’s what one looks like (download yours from SCORE here ):

break even analysis

Ta Da! Business Financial Plan, Done

You did it! You made it to the end of an article that had nothing to do with your creative product or service and everything to do with math, finance, accounting, and reasonable entrepreneurial endeavors. You now know how to create a business financial plan.

You are a boss.

Or, you’re soon going to be.

But not of Fork Dork, Inc.

That one’s mine.

Any questions? Feel free to blast them in the comments below!

the most important element of a business plan's financial plan is the cash budget which shows

About Rebeca Seitz

Rebeca Seitz is a best-selling writer and producer, and the founding CEO of 1C Productions, Inc. She recently raised over $3M for a single business venture and helped create, distribute, and promote products with sales of over $34M. Her books are published by HarperCollins and B&H Group and her last screenplay was produced with Out of Order Studios and written with Disney veteran Bob Burris. She has appeared on NPR, CNN, Huffington Post Live, and more regarding the responsible use of mass media.

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Business Financial Plan Example: Strategies and Best Practices

Any successful endeavor begins with a robust plan – and running a prosperous business is no exception. Careful strategic planning acts as the bedrock on which companies build their future. One of the most critical aspects of this strategic planning is the creation of a detailed business financial plan. This plan serves as a guide, helping businesses navigate their way through the complex world of finance, including revenue projection, cost estimation, and capital expenditure, to name just a few elements. However, understanding what a business financial plan entails and how to implement it effectively can often be challenging. With multiple components to consider and various economic factors at play, the financial planning process may appear daunting to both new and established business owners.

This is where we come in. In this comprehensive article, we delve into the specifics of a business financial plan. We discuss its importance, the essential elements that make it up, and the steps to craft one successfully. Furthermore, we provide a practical example of a business financial plan in action, drawing upon real-world-like scenarios and strategies. By presenting the best practices and demonstrating how to employ them, we aim to equip business owners and entrepreneurs with the tools they need to create a robust, realistic, and efficient business financial plan. This in-depth guide will help you understand not only how to plan your business finances but also how to use this plan as a roadmap, leading your business towards growth, profitability, and overall financial success. Whether you're a seasoned business owner aiming to refine your financial strategies or an aspiring entrepreneur at the beginning of your journey, this article is designed to guide you through the intricacies of business financial planning and shed light on the strategies that can help your business thrive.

Understanding a Business Financial Plan

At its core, a business financial plan is a strategic blueprint that sets forth how a company will manage and navigate its financial operations, guiding the organization towards its defined fiscal objectives. It encompasses several critical aspects of a business's financial management, such as revenue projection, cost estimation, capital expenditure, cash flow management, and investment strategies.

Revenue projection is an estimate of the revenue a business expects to generate within a specific period. It's often based on market research, historical data, and educated assumptions about future market trends. Cost estimation, on the other hand, involves outlining the expenses a business anticipates incurring in its operations. Together, revenue projection and cost estimation can give a clear picture of a company's expected profitability. Capital expenditure refers to the funds a company allocates towards the purchase or maintenance of long-term assets like machinery, buildings, and equipment. Understanding capital expenditure is vital as it can significantly impact a business's operational capacity and future profitability. The cash flow management aspect of a business financial plan involves monitoring, analyzing, and optimizing the company's cash inflows and outflows. A healthy cash flow ensures that a business can meet its short-term obligations, invest in its growth, and provide a buffer for future uncertainties. Lastly, a company's investment strategies are crucial for its growth and sustainability. They might include strategies for raising capital, such as issuing shares or securing loans, or strategies for investing surplus cash, like purchasing assets or investing in market securities.

A well-developed business financial plan, therefore, doesn't just portray the company's current financial status; it also serves as a roadmap for the business's fiscal operations, enabling it to navigate towards its financial goals. The plan acts as a guide, providing insights that help business owners make informed decisions, whether they're about day-to-day operations or long-term strategic choices. In a nutshell, a business financial plan is a key tool in managing a company's financial resources effectively and strategically. It allows businesses to plan for growth, prepare for uncertainties, and strive for financial sustainability and success.

Essential Elements of a Business Financial Plan

A comprehensive financial plan contains several crucial elements, including:

  • Sales Forecast : The sales forecast represents the business's projected sales revenues. It is often broken down into segments such as products, services, or regions.
  • Expenses Budget : This portion of the plan outlines the anticipated costs of running the business. It includes fixed costs (rent, salaries) and variable costs (marketing, production).
  • Cash Flow Statement : This statement records the cash that comes in and goes out of a business, effectively portraying its liquidity.
  • Income Statements : Also known as profit and loss statements, income statements provide an overview of the business's profitability over a given period.
  • Balance Sheet : This snapshot of a company's financial health shows its assets, liabilities, and equity.

Crafting a Business Financial Plan: The Steps

Developing a business financial plan requires careful analysis and planning. Here are the steps involved:

Step 1: Set Clear Financial Goals

The initial stage in crafting a robust business financial plan involves the establishment of clear, measurable financial goals. These objectives serve as your business's financial targets and compass, guiding your company's financial strategy. These goals can be short-term, such as improving quarterly sales or reducing monthly overhead costs, or they can be long-term, such as expanding the business to a new location within five years or doubling the annual revenue within three years. The goals might include specific targets such as increasing revenue by a particular percentage, reducing costs by a specific amount, or achieving a certain profit margin. Setting clear goals provides a target to aim for and allows you to measure your progress over time.

Step 2: Create a Sales Forecast

The cornerstone of any business financial plan is a robust sales forecast. This element of the plan involves predicting the sales your business will make over a given period. This estimate should be based on comprehensive market research, historical sales data, an understanding of industry trends, and the impact of any marketing or promotional activities. Consider the business's growth rate, the overall market size, and seasonal fluctuations in demand. Remember, your sales forecast directly influences the rest of your financial plan, particularly your budgets for expenses and cash flow, so it's critical to make it as accurate and realistic as possible.

Step 3: Prepare an Expense Budget

The next step involves preparing a comprehensive expense budget that covers all the costs your business is likely to incur. This includes fixed costs, such as rent or mortgage payments, salaries, insurance, and other overheads that remain relatively constant regardless of your business's level of output. It also includes variable costs, such as raw materials, inventory, marketing and advertising expenses, and other costs that fluctuate in direct proportion to the level of goods or services you produce. By understanding your expense budget, you can determine how much revenue your business needs to generate to cover costs and become profitable.

Step 4: Develop a Cash Flow Statement

One of the most crucial elements of your financial plan is the cash flow statement. This document records all the cash that enters and leaves your business, presenting a clear picture of your company's liquidity. Regularly updating your cash flow statement allows you to monitor the cash in hand and foresee any potential shortfalls. It helps you understand when cash comes into your business from sales and when cash goes out of your business due to expenses, giving you insights into your financial peaks and troughs and enabling you to manage your cash resources more effectively.

Step 5: Prepare Income Statements and Balance Sheets

Another vital part of your business financial plan includes the preparation of income statements and balance sheets. An income statement, also known as a Profit & Loss (P&L) statement, provides an overview of your business's profitability over a certain period. It subtracts the total expenses from total revenue to calculate net income, providing valuable insights into the profitability of your operations.

On the other hand, the balance sheet provides a snapshot of your company's financial health at a specific point in time. It lists your company's assets (what the company owns), liabilities (what the company owes), and equity (the owner's or shareholders' investment in the business). These documents help you understand where your business stands financially, whether it's making a profit, and how your assets, liabilities, and equity balance out.

Step 6: Revise Your Plan Regularly

It's important to remember that a financial plan is not a static document, but rather a living, evolving roadmap that should adapt to your business's changing circumstances and market conditions. As such, regular reviews and updates are crucial. By continually revisiting and revising your plan, you can ensure it remains accurate, relevant, and effective. You can adjust your forecasts as needed, respond to changes in the business environment, and stay on track towards achieving your financial goals. By doing so, you're not only keeping your business financially healthy but also setting the stage for sustained growth and success.

Business Financial Plan Example: Joe’s Coffee Shop

Now, let's look at a practical example of a financial plan for a hypothetical business, Joe’s Coffee Shop.

Sales Forecast

When constructing his sales forecast, Joe takes into account several significant factors. He reviews his historical sales data, identifies and understands current market trends, and evaluates the impact of any upcoming promotional events. With his coffee shop located in a bustling area, Joe expects to sell approximately 200 cups of coffee daily. Each cup is priced at $5, which gives him a daily sales prediction of $1000. Multiplying this figure by 365 (days in a year), his forecast for Year 1 is an annual revenue of $365,000. This projection provides Joe with a financial target to aim for and serves as a foundation for his further financial planning. It is worth noting that Joe's sales forecast may need adjustments throughout the year based on actual performance and changes in the market or business environment.

Expenses Budget

To run his coffee shop smoothly, Joe has identified several fixed and variable costs he'll need to budget for. His fixed costs, which are costs that will not change regardless of his coffee shop's sales volume, include rent, which is $2000 per month, salaries for his employees, which total $8000 per month, and utilities like electricity and water, which add up to about $500 per month.

In addition to these fixed costs, Joe also has variable costs to consider. These are costs that fluctuate depending on his sales volume and include the price of coffee beans, milk, sugar, and pastries, which he sells alongside his coffee. After a careful review of all these expenses, Joe estimates that his total annual expenses will be around $145,000. This comprehensive expense budget provides a clearer picture of how much Joe needs to earn in sales to cover his costs and achieve profitability.

Cash Flow Statement

With a clear understanding of his expected sales revenue and expenses, Joe can now proceed to develop a cash flow statement. This statement provides a comprehensive overview of all the cash inflows and outflows within his business. When Joe opened his coffee shop, he invested an initial capital of $50,000. He expects that the monthly cash inflows from sales will be about $30,417 (which is his annual revenue of $365,000 divided by 12), and his monthly cash outflows for expenses will amount to approximately $12,083 (his total annual expenses of $145,000 divided by 12). The cash flow statement gives Joe insights into his business's liquidity. It helps him track when and where his cash is coming from and where it is going. This understanding can assist him in managing his cash resources effectively and ensure he has sufficient cash to meet his business's operational needs and financial obligations.

Income Statement and Balance Sheet

With the figures from his sales forecast, expense budget, and cash flow statement, Joe can prepare his income statement and balance sheet. The income statement, or Profit & Loss (P&L) statement, reveals the profitability of Joe's coffee shop. It calculates the net profit by subtracting the total expenses from total sales revenue. In Joe's case, this means his net profit for Year 1 is expected to be $220,000 ($365,000 in revenue minus $145,000 in expenses).

The balance sheet, on the other hand, provides a snapshot of the coffee shop's financial position at a specific point in time. It includes Joe's initial capital investment of $50,000, his assets like coffee machines, furniture, and inventory, and his liabilities, which might include any loans he took to start the business and accounts payable.

The income statement and balance sheet not only reflect the financial health of Joe's coffee shop but also serve as essential tools for making informed business decisions and strategies. By continually monitoring and updating these statements, Joe can keep his finger on the pulse of his business's financial performance and make necessary adjustments to ensure sustained profitability and growth.

Best Practices in Business Financial Planning

While crafting a business financial plan, consider the following best practices:

  • Realistic Projections : Ensure your forecasts are realistic, based on solid data and reasonable assumptions.
  • Scenario Planning : Plan for best-case, worst-case, and most likely scenarios. This will help you prepare for different eventualities.
  • Regular Reviews : Regularly review and update your plan to reflect changes in business conditions.
  • Seek Professional Help : If you are unfamiliar with financial planning, consider seeking assistance from a financial consultant.

The importance of a meticulously prepared business financial plan cannot be overstated. It forms the backbone of any successful business, steering it towards a secure financial future. Creating a solid financial plan requires a blend of careful analysis, precise forecasting, clear and measurable goal setting, prudent budgeting, and efficient cash flow management. The process may seem overwhelming at first, especially for budding entrepreneurs. However, it's crucial to understand that financial planning is not an event, but rather an ongoing process. This process involves constant monitoring, evaluation, and continuous updating of the financial plan as the business grows and market conditions change.

The strategies and best practices outlined in this article offer an invaluable framework for any entrepreneur or business owner embarking on the journey of creating a financial plan. It provides insights into essential elements such as setting clear financial goals, creating a sales forecast, preparing an expense budget, developing a cash flow statement, and preparing income statements and balance sheets. Moreover, the example of Joe and his coffee shop gives a practical, real-world illustration of how these elements come together to form a coherent and effective financial plan. This example demonstrates how a robust financial plan can help manage resources more efficiently, make better-informed decisions, and ultimately lead to financial success.

Remember, every grand journey begins with a single step. In the realm of business, this step is creating a well-crafted, comprehensive, and realistic business financial plan. By following the guidelines and practices suggested in this article, you are laying the foundation for financial stability, profitability, and long-term success for your business. Start your journey today, and let the road to financial success unfold.

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