Plan small business Finances / Manage small business finances

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Laura Jefferson
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1 FINANCIAL OBJECTIVES The financial function of the operation involves measuring financial performance to reflect total operational performance. The aim in managing financial performance should be to maximise net profit and net cash flow surpluses of the operation. The two main financial performance measures, therefore, are net profit and net cash flow BSBSMB402A BSBSMB406A 1

2 Each indicator for any given period is calculated as follows: total income - total expenses = net profit total receipts - total payments = net cash flow surplus Net profit is calculated as the excess of income over expenses of the operation for a given period. Income is the earnings of the operation; expenses are its running costs. Net cash flow surplus is calculated as the excess of receipts over payments for a given period. Receipts are the cash inflows of the operation; payments are its cash outflows or outgoings BSBSMB402A BSBSMB406A 2

3 The key financial performance measure to be shown as a objective is net profit for the period. Other measures of financial performance, including net cash flow surplus, depend upon the profit measurement. The annual profit target for each year in the plan period is arrived at by deducting forecast expenses from forecast income for the period. The bottom-line profit target must be acceptable as well as achievable. An achievable profit depends on the accuracy of income and expense forecasts. An acceptable profit target, however, should at least equal the minimum amount required for the operation to remain viable. This minimum profit amount required is sometimes referred to as the normal profit of the operation BSBSMB402A BSBSMB406A 3

4 As a guide, an acceptable annual net profit should be sufficient to: remunerate a owner for the time and effort put into the provide an adequate return on the owner's funds invested in the. An adequate remuneration should at least equal what you could earn as an employee for the same time and effort put into your BSBSMB402A BSBSMB406A 4

5 BREAK-EVEN ANALYSIS A break-even analysis should be done before preparing financial plans for your operation. You should know the sales break-even point-that is, the level of sales necessary to meet total running costs. You can also use break-even analysis to determine the level of sales required to achieve a desired profit target BSBSMB402A BSBSMB406A 5

6 BREAK-EVEN ANALYSIS Break Even Calculator Example Assume the following: Fixed Costs: Monthly Rent $100 Insurance ($600 per year $60012 months = $50) $50 Total Monthly Fixed Costs $150 Variable Cost: Materials $3 Labor $4 Total Variable Cost $7 Selling Price: $10 Break Even Point Calculation Break Even Point = Fixed Costs (selling price - variable costs) Break Even Point = $150 ($10-$7) Break Even Point = $150 $3 Break Even Point = 50 To break even the company must sell 50 units per month BSBSMB402A BSBSMB406A 6

7 BREAK-EVEN ANALYSIS If the Company just broke even, then its Profit and Loss Statement would look like the following: Monthly Profit and Loss Statement Sales Gross Sales ($10 per unit times 50 units) $500 Less Cost of Goods Sold ($7 per unit times 50 units) $350 Net Sales $150 Expenses Rent $100 Insurance $50 Total Expense $150 Net Profit $ BSBSMB402A BSBSMB406A 7

8 Step 1: Estimate likely costs Business running costs (or expenses) can be identified for each operating function shown in your plan. Some of the main running costs for each operating function are as follows. Marketing expenses: advertising and promotions rent delivery costs (outwards) motor vehicle running costs (petrol, repairs, maintenance, depreciation, registration, insurance) packaging. Production expenses: depreciation-factory plant and equipment repairs and maintenance-factory plant and equipment BSBSMB402A BSBSMB406A 8

9 Purchasing expenses: trading stock purchases raw materials purchases job materials purchases delivery costs (inwards duties and customs charges Personnel expenses: gross wages, including PAYG tax (excluding owner's drawings) wage on-costs (e.g. workers' compensation insurance, employee superannuation, training costs, staff amenities) gross contractors' fees, including any PAYG tax advisers' fees (e.g. accountant's fees) BSBSMB402A BSBSMB406A 9

10 Financial and administrative expenses: interest paid bank charges legal fees (e.g. licencepermit fees) stationery electricity telephone postage depreciation-office furniture and machines general insurances ISP Fees other general expenses. Expense estimates should reflect realistic expectations and be consistent with your proposed strategies BSBSMB402A BSBSMB406A 10

11 Step 2 Categorise costs as fixed or variable For break-even analysis purposes, running costs identified are categorised as being either fixed or variable costs. Fixed costs (i.e. overheads) are constant. They do not change when sales volumes change provided the does not change its operating capacity. Examples of fixed costs are rent, depreciation, wages and interest paid. Variable costs change proportionally to changes in volumes of activity. When sales volumes change, these costs generally do so too. Examples of variable costs are stock purchases, raw materials purchases and job materials purchases BSBSMB402A BSBSMB406A 11

12 Step 3 Calculate the contribution margin The sales income of the must be enough to cover its variable costs and fixed costs as well as the required profit. TI1e contribution margin is the excess of sales income over the variable costs of the for the period. The contribution margin measures how much sales contribute towards meeting fixed costs and desired profit. The contribution margin can also be expressed as a percentage. The contribution margin percentage measures how much in each sales dollar contributes towards meeting fixed costs and profit. The contribution margin (%) is calculated as follows (for the period): Contribution margin on sales (%) = Sales income ($) - Variable costs ($) x 100 Sales income ($) BSBSMB402A BSBSMB406A 12

13 For example, your 's estimated sales income is $ for the year and its variable costs are expected to be $ The contribution margin is: $ $ = $ The contribution margin (%) on sales is: $ $ x 100 = 38.6% $ This means that each $1 of sales contributes 38.6 cents towards fixed costs and profit BSBSMB402A BSBSMB406A 13

14 Step 4: Calculate the break-even point With a knowledge of the contribution margin (%), you can find the 's break-even point-the level of sales at which income equals expenses (costs) so that neither a profit nor a loss is made. The break-even level of sales is calculated as follows (for the period): Break-even point of sales ($) = Fixed costs ($) Contribution margin on sales (%) BSBSMB402A BSBSMB406A 14

15 The following estimations are made for your for the year: Sales $ Fixed costs $ Variable costs $ Net profit (before tax) $ Variable costs ($ ) as a percentage of sales ($ ) are 48%. This means that 48 cents of every sales dollar is used to cover variable costs, while 52 cents must cover fixed costs and profit. The contribution margin (%) is: $ $ X 100=52% $ The break-even point of sales is therefore calculated as follows: $ = $ At this sales level, all costs are covered and there is no profit BSBSMB402A BSBSMB406A 15

16 Annual break-even sales can be shown separately underneath forecast profit statements in your plan. You can also use break-even analysis to find the level of sales required to cover costs (both fixed and variable) to achieve any desired profit target. The desired sales level is calculated as follows (for the period): Required sales ($) = Fixed costs ($) + Desired profit ($) Contribution margin on sales (%) BSBSMB402A BSBSMB406A 16

17 FINANCIAL PLAN GUIDELINES The financial plan is always the last component plan attempted in the plan-building process for a plan. It is prepared after completing the marketing and any production, purchasing and personnel plans for the operation. A financial plan is the financial expression of the objectives and strategies for all operational functions, such as marketing, production, purchasing and personnel. These objectives and strategies are shown in the other component plans. The financial forecasts in the financial plan must be consistent with all the other aspects of the operational plan. Realistic and achievable financial forecasts will enable you to evaluate the viability of a proposed operation, as well as to set measurable targets to achieve. If you are seeking a loan, lenders will always examine the financial forecasts and look at how you intend to control the financial aspects of the BSBSMB402A BSBSMB406A 17

18 . TABLE 7.1 Financial plan outline Section F. Financial plan F.1 Personal financial position (Show the personal financial position of each owner.include a statement of personal net worth and a statement of monthly personal commitments for each owner.) F.2 Establishment costs (List the estimated establishment costs for the proposed.) F.3 Borrowing requirements (Show here details of any proposed loans required.) F.4 Financial forecasts (Provide detailed financial estimates of performance for each year of the plan. Include forecasts for profit, capital expenditure,cash flows and financial position for each year.) F.5 Financial records (Briefly describe the financial record system to be used to report financial results.) F.6 Business insurances (List proposed insurances to be arranged for the operation, including any compulsory insurances required under the law.) F.7 Financial controls (Describe what methods will be used to monitor and evaluate financial results of the operation.) BSBSMB402A BSBSMB406A 18

19 F.1 PERSONAL FINANCIAL POSITION To begin financial planning, assess the personal financial position of each owner. This requires the preparation of two personal financial statements (see Figure 7.1). To determine how much personal capital you have available to start the, prepare a current statement of personal net worth. This will list all your assets (what you own) and liabilities (what you owe). The difference between your total personal assets and total personal liabilities is your personal net worth (which may be a surplus or a deficit). Lenders will require a statement of personal net worth to assess your history of financial success and whether your security is adequate. The format of a statement of personal net worth is shown in Figure 7.1. If you jointly own an asset or owe a liability, show only your share. The second personal financial statement to prepare is a current statement of monthly personal expenses. Your statement of monthly personal expenditure could include the items shown in Figure BSBSMB402A BSBSMB406A 19

20 . FIGURE 7.1 Personal financial statements STATEM ENT OF PERSONAL NET WORTH AS AT _ PERSONAL ASSETS (current selling value) $ Real estate Furniture and contents Savings and investments Collectables Cash on hand Motor vehicle Other assets TOTAL PERSONAL ASSETS less PERSONAL LIABILITIES (current balance owing) Mortgage Personal loans Credit cards Other liabilities TOTAL PERSONAL UABIUITES PERSONAL NET WORTH $ _ STATEMENT OF CURRENT MONTHLY PERSONAL EXPENSES EXPENSES Food Household necessities Clothin g Motor vehicle running costs (e.g. petrol, repairs, maintenance, registration, insurance) Rentmortgage Rates Electricity and telephone Personal loanscredit cards Entertainment Medical Superan nuationinsurances Other expenses TOTAL MONTHLY PERSONAL EXPENSES $ $ _ BSBSMB402A BSBSMB406A 20

21 Convert all annual or quarterly outgoings to monthly equivalents. For example, annual car insurance for $600 would be $50 per month. Knowing your personal commitments will help you calculate the amount of cash drawings you will need to take from the. Your must be able to support and maintain your lifestyle BSBSMB402A BSBSMB406A 21

BUSINESS FINANCIAL BASICS

BUSINESS FINANCIAL BASICS HERE ARE THREE BASIC FINANCIAL STATEMENTS THAT ARE IMPORTANT FOR YOUR SMALL BUSINESS: BALANCE SHEET. P&L. CASHFLOW STATEMENT 1 BALANCE SHEET A financial statement captures a person