Creating a

Successful
Financial Plan
Volume is vanity; profitability is sanity
Brad Skelton
It is better to solve problems than crises
John Guinther

Financial Management
A process that provides
entrepreneurs with relevant
financial information in an
easy-to-read format on a
timely basis; it allows
entrepreneurs to know not
only how their businesses
are doing financially, but
also why they are
performing that way.

Basic Financial
Statements
The Balance Sheet
a financial statement that
provides a snapshot of a
businesss financial
position, estimate its
worth on a given date; it is
built on the fundamental
accounting equation:

Assets =
Liabilities + Owners
Equity

Basic Financial
Statements (contd)
current assets- assets such as cash and other
items to be converted into cash within one
year or within the companys normal
operating cycle.
fixed assets- assets acquired for long-term
use in a business.
liabilities- creditors claims against a
companys assets.
current liabilities- those debts that must be
paid within one year or within the normal
operating cycle of a company.
long-term liabilities- liabilities that come due
after one year.
owners equity- the value of the owners
investment in the business.

Basic Financial
Statements (contd)
The Income Statement
a financial statement that
represents a moving
picture of a business,
comparing its expenses
against its revenue over a
period of time to show its
net profit (or loss).
cost of goods sold- the
total cost, including
shipping of the merchandise
sold during the accounting
period.
gross profit margin- gross
profit divided bye net sales
revenue.
operating expenses- those
costs that contribute
directly to the manufacture
and distribution of goods.

Basic Financial
Statements (contd)
The Statement of Cash
Flows
a financial statement
showing the changes in
a companys working
capital from the
beginning of the year
by listing both the
sources and the uses of
those funds.

Creating Projected
Financial Statements

Pro Forma Statements for the Small

Business
Pro Forma Income Statement
Pro Forma Balance Sheet

Creating Projected
Financial Statements
Pro Forma Income(contd)
Statement
1. Net Sales 2 options:
a) Net Profit (Industry)=
Net Profit Wanted/Net Sales
or
b) Net Sales=Sales Forecast
Which one is Most Likely? Optimistic?
Pessimistic?
Tip: Compute for Average Daily Sales
2. Estimated Monthly Expenses, see pages 393 &

Creating Projected
Financial Statements
(contd)

Pro Forma Balance Sheet-Assets

Cash:
Cash Requirement=Cash Expenses/AITR*
*Average Inventory Turnover
Ratio
Inventory:
AITR=Cost of Goods Sold/Inventory Level

Creating Projected
Financial Statements
(contd)
Pro Forma Balance SheetLiabilities
Accounts Payable (supplier
financing)
Short-term Notes Payable
Long-term Notes Payable

Ratio Analysis

A method of expressing the

relationship between a y two
accounting elements that allows
business owners to analyze their
companies financial performance

Ratio Analysis
Liquidity Ratios: tell whether a small
business will be able to meet its shortterm obligations as they come due
Current Ratio: measures a small firms
solvency by indicating its ability to pay
current liabilities out of current assets
=Current Assets/Current Liabilities
=$686,985/$367,850
=1.87:1 Good: 2:1 Industry: 1.5:1

Ratio Analysis
Liquidity Ratios (contd)
Quick Ratio: a conservative measure of a
firms liquidity, measuring the extent to which
its most liquid assets (minus inventory) cover
its current liabilities
=(Current Assets-Inventory)/Current
Liabilities
=($686,750-$455,555)/$367,850
=0.61:1
Good: 1:1 Industry: 0.50:1

Ratio Analysis
Leverage Ratios: measure the financing
supplied by a firms owners against that
supplied by its creditors; they are a gauge
of the depth of a companys debt
Debt Ratio: measures the percentage of
total assets financed by a companys
creditors compared to its owners
=Total Debt (Liabilities)/Total Assets
=($367,850+$212,150)/$847,655
=0.681:1
Good: 1:1
Industry: 0.64:1

Ratio Analysis
Leverage Ratios (contd)
Debt to Net Worth Ratio: expresses the
relationship between the capital
contributions from creditors and those
from owners and measures how highly
leveraged the company is
=Total Debt (Liabilities)/Tangible Net
Worth
=($367,850+$212,150)/($267,655-$3,500)
=2.20:1 Industry: 1.90:1

Ratio Analysis
Leverage Ratios (contd)
Times Interest Earned Ratio : measures
a small firms ability to make the
interest payments on its debt
Times Interest Earned Ratio
=EBIT/Total Interest Expense
=($60,629+$39,850)/$39,850
=2.52:1
Industry: 2.0:1

Ratio Analysis

Operating Ratios: help an entrepreneur

evaluate a small companys overall
performance and indicate how effectively
the business employs its resources
Average Inventory Turnover Ratio:
measures the number of times its average
inventory is sold out, or turned over
during an accounting period
=Cost of Goods Sold/Average Inventory
=$1,290,117/($805,745+$455,455)/2
=2.05 times/year Industry: 4.0 times/year

Ratio Analysis
Operating Ratios (contd)
Average Collection Period Ratio (DSO):
measures the number of days it takes
to collect accounts receivable
=Days/Receivables Turnover Ratio
=365/Credit Sales/Accounts Receivable
=365/$1,309,589/$179,225
=365/7.31
=50 days
Industry: 19.3 days

Ratio Analysis
Operating Ratios (contd)
Average Payable Period Ratio :
measures the number of days it takes a
company to pay its accounts payable
=365/Payables turnover ratio
=365/Purchases/Accounts Payable
=365/$939,827/$152,580
=365/6.16
=59.3 days
Industry: 43 days

Ratio Analysis
Operating Ratios (contd)
Net Sales to Total Assets Ratio :
measures a companys ability to
generate sales in relation to its asset
base
=Net Sales/Net Total Assets
=$1,870,841/$847,655
=2.21:1
Industry: 2.7:1

Ratio Analysis
Profitability Ratios: indicate how
efficiently a small company is being
managed
Net Profit on Sales Ratio : measures a
companys profit per dollar of sales
=Net Profit/Net Sales
=$60,629/$1,870,841
=3.24%
Industry: 7.6%

Ratio Analysis
Profitability Ratios (contd)
Net Profit to Assets Ratio :
measures how much profit a
company generates for each
dollar of assets that it owns
=Net Profit/Total Assets
=$60,629/$847,655
=7.15%
Industry: 5.5%

Ratio Analysis
Profitability Ratios (contd)
Net Profit to Equity Ratio :
measures the owners rate of
return on investment
=Net Profit/Owners Equity
=$60,629/$267,655
=22.65%
Industry:12.6%

Interpreting Business
Ratios
Critical numbers:
indicators that
measure key financial
and operational
aspects of a companys
performance; when
these numbers are
moving in the right
direction, a business is
on track to reach its
objectives

Break-even Analysis

Break-even point: the level of

operation (sales dollars or production
quantity) at which a company neither
earns a profit or incurs a loss
Fixed expenses: expenses that do not
vary with changes in the volume of
sales or production
Variable expenses: expenses that
vary directly with changes in the
volume of sales or production

Break-Even Analysis
Calculating the Break-Even Point
Step 1: Determine Expenses expected to be
incurred (646,000+$236,500)
Step 2: Categorize the expenses into fixed and
variable ($177,375+$705,125)
Step 3: Calculate ratio of variable expenses to
net sales ($705,125/$950,000)=74%,
Contribution margin is 26%=
Step 4: Compute Break-even Sales:
=Total Fixed Cost/Contribution Margin as % of
sales
=$177,375/0.26
=$686,212

Break-even Analysis
Better than Break-even Sales
=(Total Fixed Expenses + Desired
Profit)/Contribution Margin as %
of sales
=($177,375+$80,000)/0.26
=$989,904

Break-even Analysis
Break-even point in units
=Total Fixed Costs/(Sale Price/unitVariable cost/unit)
=$390,000/($17.50-$12.10)
=$390,000/$5.40
=72,222

Break-even Analysis
Constructing a Break-even Chart
Step 1: Horizontal axis, mark a scale
to plot sales volume
Step 2: Vertical axis, mark a scale to
plot income and expense in dollars
Step 3: Draw fixed expense line
Step 4: Draw a total expense line
Step 5: Draw the revenue line
Step 6: Locate break-even point:
intersection of revenue line and total
expense line