Writing a Business Plan Series: Week 8: Break-Even Analysis

Water Lilies at Brooklyn Botanic Garden, a photo by jbylund on Flickr.

My favorite part of the business plan: Break-Even! While at WIBO, they made a point to ensure we all understood how important break-even is. If you do not know your break-even point and prices, you are doing yourself and your business a real disservice. Knowing this critical formula will keep you from underselling your product and services, from scrambling to keep up with the competition, and from closing your doors prematurely. We spent four weeks on it!

Get your spreadsheets and calculators out. You need to know the direct and indirect costs for each and every product/service you offer and the percentages each of them represent. It's like balancing a checkbook. "How much will your business need to sell in order to cover its costs?"

Garrett Sutton describes break-even in his book as opening night in his production comparison. "The movie [has] been made. Now how many tickets [do] you have to sell to break even?" You should also do this for the month. You can use "this tool for bidding on jobs and taking on new business. You need to know where you [are] every month and you [have] to hold your margins to reach your break-even point before moving into profitability."

"The break-even analysis is a good tool for entrepreneurs because it encourages an in-depth understanding of costs. And it's good for lenders and investors because it says a lot about whether or not you, as writer of the plan, are realistic in your assumptions."

Sutton goes a step further in describing the break-even point of a business. "It is that point at which you can start to breathe a little easier. It is the point when you start to think maybe going into business for yourself was a good decision. It is the beginning of stability. It is the point too many businesses never reach. But, numerically, it is the point at which your fixed and variable expenses (including costs of sales) are met by your product and/or service sales. You won't be making a profit, but you will no longer be taking a loss." (I think another dream of an entrepreneur is to never take a loss.) "You can display this point in a number of ways in your business plan. In graph or table form, show dollars of expense compared to either dollars of revenue or units of production. In a mathematical presentation, you can find the exact break-even point with this formula:

break-even = fixed expenses + (1-variable expenses / sales)

He suggests it might be best to present this data in both formats because the graph is great since we are largely a visually based society and because bankers and other analytical types will appreciate the mathematical formula.

Here is the link to WIBO's Powerpoint presentation of break-even:

http://www.docstoc.com/docs/40162238/WIBO-Break-Even-Analysis-Primer

Do not skip this important step. You need to know your business and it's numbers. As Robert Kiyosaki says, "you need to mind your own business". Until next week...

Writing A Business Plan Series: Week 7: The Balance Sheet and Income Projection

The Other Side of The Bridge, a photo by Maxim34374 on Flickr.

It turns out that WIBO is having their 2nd Annual Business Plan Competition, open to all WIBO alumni. What better way to test the theories of Garrett Sutton's book and this blog post than by entering and hopefully winning $20,000 for my business!

Now to discuss the Balance Sheet. If you remember from a few posts back, Sutton compared it to "the audio/video mix in terms of production. It answers the question: what is your business worth? It's the balance of your company's finances and present data on it's assets, liabilities and net worth. All balance sheets use the same format and are simple to create." Here's a sample balance sheet from www.accountingcoach.com.

"Your assets fall under four categories: 

• current: can be converted to cash within one year 
• long-term: investments to be kept for at least one year 
• fixed: resources not meant for resale 
• other: assorted assets unique to business' circumstances 

Your liabilities fall under only two categories:

• current: payable within one operating cycle 
• long-term: mortgages, vehicles, notes, etc.

And your business' net worth is given according to the legal structure of your business. This should be prepared on a regular basis because it helps you spot trends and plug cash leaks before they sink your company. For a new business, you can choose to include a personal balance sheet of your personal finances to show your ability to handle money, or not to show you value your privacy."

"Income Projections need to be based on realistic expectations and real world experience (talk to or hire professionals) to help you get the numbers right. There are two types of forecasting types: button-up and top-down.

• Button-up: uses the knowledge from the frontlines to predict the future needs of your business
• Top-down: plans for the future with the end in mind; starts with goals from 3 years out, then backtracks the steps it will take to get there. Think big picture."

Well, I'm playing catch up now. Our previous family emergency plus my own little encounter with the gases in my basement office has temporarily stalled the creation of my plan. But with the SMART goal of entering the WIBO competition, I am renewed. Onward!

Until next week...

Writing a Business Plan Series: Week 6: The Financials: The Income and Cash Flow Statements

Macy's Fireworks NYC 2013 - Empire State Building Color, a photo by Bob Jagendorf on Flickr.

Happy Independence Day! I hope you all had one of celebration and reflection, but it's back to work and back to the our business plans.

Garrett Sutton, Esq. breaks down the important financial components of a business plan in his book, making it easier for entrepreneurs to add details to their bigger picture dreams. WIBO gives them the practice of actually doing the math, creating the tables and putting in the mental work to fulfilling their dreams. Both provide samples of what an Income Statement and Cash Flow Statement ought to look like.

"The Income Statement or Profit and Loss Statement or Statement of Operations reveals business profitability at a set point in time. It shows what a business has spent and on what, plus what the business has brought in and from where, to tell whether the business made money

 or not. It needs to be prepared monthly AND yearly; with the data coming from company records."

It has basically five main components:

• Income which includes net sales, costs of goods sold, gross profit, and other.
• Expenses which includes direct (or controllable or variable), indirect (or fixed or office or overhead) and other.
• Net profit/loss before income taxes
• Income Taxes
• Net profit/loss after income taxes

"The Income Statement helps you track the effectiveness of your plans by showing how expenses and sales are affecting profits or losses and helping you to plan for variations in sales volumes from month to month."

The Cash Flow Statement shows "the difference between the money coming in and the money going out along a timeline. [Create a table that shows how] much money you expect from whom (by category, such as sales) and when (by date, week, etc.), plus how much money you'll need to pay out (expense) to whom and when." Sutton quotes Robert Kiyosaki:

"Many small business owners fail because they don't know the difference between profit and cash flow."

Make it easier by preparing "separate budgets for revenues, cost of sales, fixed expenses and variable expenses. Also create separate tables of all sources of incoming and outgoing cash (these don't have to be in the actual plan).... The timeline can be for any stretch of time you want, but the further out you go, the less accurate your numbers will be. Stick to one fiscal year and work month to month to reflect reality and your ever increasing expertise. Use the traditional format and break categories into subcategories:"

Totals                                            Beginning Cash Balance               Cash Receipts                                Total Cash Available                     Cash Payments                              
Total Cash Paid Out
Balance
Incoming Loans
Equity Deposits
Ending Balance 

I like spreadsheets, so this portion will be more enjoyable. Which portion has been your favorite so far? Until next week.