Oddly enough, creating financial projections is much more important and complex than actual results. More than figures, what matters is planning. Or put another way, it is the means to the end that matters here more than the end.
Without financial projections, business is like groping in the dark without a lamp and a map and you won’t be able to gain the trust of investors or obtain financing. Even if you’re self-financing or running a family business, you need financial projections as a guide and barometer to measure your business’s performance.
You will need to consider these steps to get to your financial projections:
Develop your 3-5 year sales forecast: You can make your forecast, based on past sales data, competitive comparisons, and the current economic trend. It’s usually a combination of both and you need to understand that your optional lenders won’t believe you anyway! We all want to believe that our sales will skyrocket, but keep in mind that your investors will hold you accountable in the future. Keep in mind that if you need more capital 3 years from now, those same investors are a great source of more cash, but they will measure your current progress against your initial projections.
Create an expense budget: These include expenses for the cost of goods, but also for operating expenses such as equipment, payroll, rent, marketing, insurance, depreciation, etc. Typically, after estimating the cost of goods, we break down operating expenses into broader categories, such as: Sales and Marketing, Administrative, and then Research and Development or Misc. Production costs.
Create a statement of cash flows: This refers to the flow of cash in and out of your business and reveals your liquidity, or ability to use cash when needed. (and important to lenders, the ability to pay them back!) The cash flow statement is of key interest to investors and lenders, as they will want to ensure that your business plan includes enough cash to continue operating.
Build your income projections: This refers to your financial position, resulting from revenue and cost of goods sold, gross profit, and operating expenses. The amount of revenue you project is important from a long-term viability standpoint, but in some cases, such as Internet sales, growth and number of customers sometimes become equally important.
Consider your assets and liabilities: Assets are things you own that have value, while liabilities are amounts you owe to others. When creating your projections, you want to make sure you have included the buildings, equipment, vehicles, and everything else you will need to support your business plan.
Arrive at your break-even analysis: A key area of interest in projections is when you are prepared to make a profit on your business based on a combination of fixed costs, variable costs per unit of sales, and revenue per unit of sales. This is the final phase of your business where expenses are equal to actual sales.