Budgeting Basics for a Micro Business

 

For entrepreneurs, often the most difficult part of launching a business is preparing financial projections. It may not be the most enjoyable task, but budgeting is imperative for maximizing performance.

“Eight out of 10 companies fail in the first two years due to insufficient cash,” warns esteemed financial consultant Roni Fischer.

In addition, you’ll need to be on top of your financials in order to grow – whether you hope to obtain a bank loan, attract investors, invest in equipment, or hire employees.

“Companies need to develop both an annual operating budget and a cash plan,” says Ms. Fischer.

“The annual operating budget provides a roadmap for your operations for the next 12 months – including your projected sales to customers, your associated costs to produce these items, your marketing and customer services costs, as well as your overhead expenses,” she explains. “The difference between the revenue (sales to customers) and the costs is your projected income (or loss) for the year.

“Along with the annual operating budget, you’ll want to project your cash flow,” adds Ms. Fischer. “For early stage and emerging companies, cash flow is difficult to sustain as growth always requires cash. Therefore, it is imperative to know when you will be collecting receipts from your customers and when your bills need to be paid to ensure you have adequate cash to honor your payroll and vendor payment commitments.”

Ms. Fischer is president of RLF Associates, Inc. in the Los Angeles area. I’m very familiar with her work. As a leading consultant for over 25 years, she provides expert financial and management solutions for firms ranging from start-up companies to multi-hundred million dollar corporations.

Ms. Fischer offers the following guidance for preparing your monthly projections:

Key Elements for an Annual Operating Budget:

1. Prior Performance. If you have data from the prior year(s), this can be helpful in preparing your current year budget. 
2. Sales Projections. Be pragmatic about your forecast. Include how much you plan to sell and at what price. Anticipate the elasticity of customer demand vis-à-vis economic conditions and price points. 
3. Cost of Goods Sold. This includes materials and labor (your “direct” costs for producing the items), and your ”indirect” costs for manufacturing. 
4. Expenses. Include your sales and marketing expenses as well as your overhead costs – such as salaries, rent, utilities and supplies. 
5. Operating Income. Calculate sales, less cost of goods sold, less expenses to determine your operating income (or loss). 
6. Assumptions. Ensure that your assumptions are reasonable and achievable. Base your projections on your experience, instincts, market research and other available information.

Key Elements for a Cash Plan:

1. Beginning Cash Balance. Start with the cash you currently have in the bank. 
2. Cash Receipts. Estimate the cash you anticipate receiving from your customers; considering the payment terms you have offered to them. Keep in mind that although you may have “sales” in December, you may not collect the cash until January or February (or later). 
3. Cash Disbursements. Project the cash you will need to pay your expenses in a timely fashion. Consider every expense from payroll (and associated payroll taxes) to rent to other operating costs. 
4. Cash Surplus or Shortfall. Starting with your beginning cash balance, add your cash receipts, and subtract your cash disbursements. If the result is a “positive” number, you have a surplus. If the result is a “negative” number (less than zero), you have a shortfall, and will need to review your annual operating budget to determine which expenses you can reduce, which payments you can defer, or where you can obtain a loan to cover this shortfall. 
5. Financing. Determine if you have the required funds for the period in question. Hopefully, you will have a surplus. If not, consider other sources for obtaining money such as a bank line of credit, factoring your accounts receivable or obtaining a loan from friends or family members. Make sure you maintain a cash reserve for contingencies. 
6. Ending Cash Balance. Calculate your ending cash balance by starting with your beginning cash balance, adding your cash receipts and any financing, and subtracting your cash disbursements. The resulting amount will be the beginning cash balance for the next period.

You’ve no doubt heard the adage, “Cash is king.” So make certain you have ample reserves to operate your business.

Ms. Fischer’s Web site: www.rlfassociates.com.

(Note: She is a fellow member of Consultants West, www.consultantswest.com, a roundtable of veteran consultants in the Los Angeles area.)

From the Coach’s Corner, here are some related resource links:

Primer for Best Practices in Preparing Financial Statements

Accounting / Finance – Why and How to Determine Your Break-Even Point

In Any Economy, What Drives Your Profit, Really?

Embezzlement – Tips to Protect Your Nonprofit or Company Assets

6 Values for Financial Protection

11 Strategies to Keep your Small Business Floating above Water

“If you aren’t practicing and playing to be first, then maybe you shouldn’t be an entrepreneur.”

-Robert Kiyosaki

 

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Columnist Terry Corbell is also a business-performance consultant and profit professional. Click here to see his management services (many are available online). For a complimentary chat about your business situation or to schedule Terry Corbell as a speaker, why don’t you contact him today?

 

Primer for Best Practices in Preparing Financial Statements

 

A good financial system is vital for your business. Not only will a properly prepared financial statement tell you what’s transpired in your business, it will give you a snapshot regarding your future. 

Measurement of cash flow is paramount. 

In the two forms of accounting – cash basis vs. accrual basis – the cash-basis system is much simpler. 

In essence, the salient focus in the cash-basis system is getting money into your bank account. Then, you worry about paying the bills. When you make a sale, you deposit the funds. The date you receive the funds is recorded as the selling date. It doesn’t matter when you made the sale. 

Naturally, you pay your bills when the money is available. FYI, it doesn’t matter when the expense was incurred. In a cash-based system, the expense is recorded when it’s paid. 

Also, in cash-basis accounting, very little focus is given to matching the time period when the money is earned or the duration when they are incurred. 

In contrast, accrual-basis accounting is more complex. It will match your revenue to the actual period of time in which it’s earned; plus, it matches your expenses to the corresponding period of time in which they’re incurred. 

Again, it’s not nearly as simple as a cash-based system because it supplies a lot more data concerning the financials of your company. An accrual system gives you more meaningful information. You’re more able to keep records of the payments from the customers to whom you give credit. And it presents more information on your amounts due to your creditors. 

So, to keep your fiscal house in order, there is a common-sense approach for preparing financial statements. By using data from your ledger accounts, entries can be made on a worksheet. 

For the worksheet, it’s suggested you prioritize your entries in the following order: 

1. Income statement
2. Statement of retained earnings
3. Balance sheet
4. Cash flow statement

Here’s an explanation of each: 

Income Statement. You should include your expenses, revenue, and your net income. That means, of course, you convey your ledger account balances from your expenses, revenue, and your capital gains or losses. 

Statement of Retained Earnings. This report contains information from the start and ending of your retained earnings. 

A statement of retained earnings is derived from the following sources: 

• Using your previous statement of retained earnings, list your beginning retained earnings.
• From the prior income state, show your net income.
• Indicate the dividends paid from this accounting period.

Balance Sheet. Your balance sheet shows the following: Assets, liabilities and equity of shareholders in the company. 

How it’s assembled: 

• Show the remaining amounts of your asset accounts. They include cash on hand and your accounts receivables.
• Indicate your liabilities in what’s aptly named your liability accounts. This will include all accounts payable and notes.
• List your capital stock balance.
• Record your retained earnings – this is taken from the statement of retained earnings. 

Cash Flow Statement. All the data is vital, and my sense is that the cash flow statement is all-important as it reflects your ability to succeed in business. 

It includes the numbers that show why there are fluctuations in your cash on-hand. The cash flow statement will indicate your sources of cash. Further it will indicate how you use cash in all phases of your business – including operations, finances and investments. 

Remember the difference between accrual and cash systems. As a cash-basis report, your cash flow statement can’t be drawn from the ledger account balances of an accrual accounting approach. 

So, you use one of two methods to create a cash flow statement from accrual-system data. 

Your optional methods are: 

1. Direct – subtract your cash disbursements from your cash receipts in this method.
2. Indirect – from your net income, you add or subtract your non-cash entries.

From the Coach’s Corner, here related resource links: 

8 Simple Strategies to Give You Pricing Power 

Step-by-Step Solutions for a Company Turnaround 

Management Strategies for a Successful Turnaround

What No One Tells You about Raising Investment Capital

What Should You Divulge When Asking for Investment Capital?

Eight Strategies to Consider Before Starting A Tech Business

“The fact is that one of the earliest lessons I learned in business was that balance sheets and income statements are fiction, cash flow is reality.”

-Chris Chocola 

 

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Columnist Terry Corbell is also a business-performance consultant and profit professional. Click here to see his management services (many are available online). For a complimentary chat about your business situation or to schedule Terry Corbell as a speaker, why don’t you contact him today?

Look for Significant New Fair-Value Accounting Standards

 

Aug. 4, 2010

As a company shareholder, you will see more transparency as the result of new fair-value accounting standards proposed by the Financial Accounting Standards Board (FASB). But the transparency means substantially more work to prepare financials, according to Daniel Figueredo, manager of San Francisco Bay Area accounting firm, Burr Pilger Mayer.

He was interviewed by Sue Ostrowski at the Smart Business Network.

“The new standards in the exposure draft will help converge the U.S. generally accepted accounting principles (GAAP) with international financial reporting standards (IFRS),” says Mr. Figueredo. “It’s a pretty robust draft with many new disclosure requirements. If it’s issued as is, it will be challenging for businesses.”

Mr. Figueredo says companies will be required to divulge how they arrive at conclusions when presenting fair-value financials based on changed assumptions.

“One of the most significant disclosure requirements that could affect businesses is the need to disclose a sensitivity analysis that attempts to measure the uncertainty in your fair value measurements categorized as level 3, which are the items that require the most management judgment to value,” Mr. Figueredo tells Ms. Ostrowski. “You will have to disclose the range of that price change, thus giving a reader a sense of the degree of possible swings to your balance sheet for other likely fair values that one could have arrived to.”

As an example, he cites banks with mortgage-backed securities.

“These instruments require a fair amount of judgment by management to value, and would likely be categorized as level 3,” he explains. “Factors considered in measuring the value of a mortgage-backed security could include pre-payment assumptions, default rates, loss severities and discount rates, to name a few.”

He says banks will have to establish the most-salient valuation assumptions. Then, they will have to ascertain other sums that were possible to consider in determining a different conjectural fair value.

Another significant change:

“As part of the new provisions, the exposure draft indicates that you should not consider blockage factors for level 2 or 3 fair value measurements,” he explains. “That essentially means that you should not take further discounts to fair value just because you own a large chunk of shares, such as with large investors like Warren Buffet’s Berkshire Hathaway or hedge funds.”

He explains the difference if a company should have to liquidate:

“…that sale will affect the price of the stock (typically downward),” he says. “But you could very easily sell smaller chunks of stock over longer periods of time. Blockage discounts are viewed as transaction costs, and the effects should be recognized when the decision to sell a block is carried out, rather than as period to period fair values.”

The article also explains more on how the changes will affect companies, what types of firms will be impacted and how they can prepare. For more details, here’s the link to the article:

From the Coach’s Corner, if you’re like a lot of companies in a financial turnaround situation, here’s a resource: Step-by-Step Solutions for a Company Turnaround.