Wednesday, November 16, 2011

Start-Up Financial Forecasting

Introduction
Start-up and early stage businesses underperform or fail largely because they run out of money (cash and credit).  In some instances entrepreneurs start businesses that will never generate the profit margins needed to pay for committed fixed assets and recurring operating expenses; and sometimes they run out of money after starting-up because they do not completely explore the possible financial consequences of what appear to be very sound operating decisions.

For example, starting a new retail store and spending most available funds (cash and credit) on fixtures and space improvements can place a great strain on remaining funds to pay employees, suppliers, rent, etc; and to weather the period it takes to build a profitable clientele.  Likewise, growing too quickly relative to a start-up’s available funding - evidenced by too high an investment in accounts receivable and inventory - can cause the same financial strain.

In any case, it is tragic to see promising businesses die, causing family wealth to be decimated, because of financial issues and obstacles that could have been identified and possibly overcome before operating plans were executed.

Financial Forecasting
Businesses are dynamic financial systems.  Changes in financial viability arise because a set of actions (operating initiatives) create effects (balance sheets and cash flow) that, in turn, cause other effects.  A primary task of sound financial management is forecasting the possible financial effects of business initiatives before the initiatives are undertaken and, based on forecasted outcomes, rebalancing choices to best protect the sustainability of the business. 

Forecasted income statements, balance sheets and cash flow statements are the financial dashboards that can assist entrepreneurs in exploring the financial effects (the “what-ifs”) of business initiatives.  Financial managers need to have a feel for the financial effects of business decisions - how decisions are monetized into the dashboards, and insight into the impacts on the dashboards after the decisions are implemented. 

The goal is to identify the unintended financial consequences of planned business initiatives; and to develop action plans, in advance, to mitigate their negative effects.

Forecast Software
If you do not already have a method to produce forecasts for your start-up or early stage business, please consider Corpfin.Net’s  web-based, easy-to-use business financial planning software.  The software helps create five-year financial forecasts, and 12 monthly forecasts for each of the five forecast years. 

Our start-up forecast model is used by businesses that have no operating history.  Our early stage model is used by businesses that have very limited (i.e., less than 12 months) historical financial information. 

Because start-up and early stage businesses have little or no historical financial history, we use SIC code financial data to help create the first draft of a forecast.  The models create a first draft forecast using a few user sales assumptions and the financial metrics for businesses in the primary industry in which the start-up or early stage business expects to compete.  The user can modify that draft’s assumptions to customize the forecast to suit her unique business circumstances. 

The major benefits of using the SIC code data are first, it provides guidance with respect to the profitability and asset investments by mature businesses in the industry of interest; and second, it is a very quick and easy way to get the financial planning process started. 

Our five-year forecasts are documented with eleven reports which include:
  • An S I C extract showing the financial data on which the first draft forecast is based.
  • A narrative report that is organized in a manner to help present the key elements and results of the forecast to a third party.
  • Multiple versions of forecast financial statements (income statements, balance sheets and cash flow statements) and forecast assumptions reports.
  • Comprehensive financial metric reports.
Our single-year model is nested within the five-year forecast models and enables the user to create single year forecasts (i.e., split a single year's forecast into twelve (12) individual monthly forecasts) for any year's forecast.  Reports generated by this model are similar to those documenting the five-year forecast.

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