Ch 7 Outline
1. Introduction
2. Financial Planning
- The Sales Forecast
- The Profit and Loss Statement
- The Cash Flow Statement
- The Balance Sheet
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FINANCIAL PLANNING
In order to control the operations of a business, the entrepreneur requires a well-designed
financial plan.
 
This can help the entrepreneur stay focused and on track despite the lack of profits
during this critical phase of the venture’s life cycle.
 
The goal is to determine the funds needed to launch and sustain the venture as it
grows.
 
The financing needed to launch a venture depends on many factors, including the
industry, experience of the entrepreneur, location of the venture, and inventory
requirements.
 
In addition to these expenses, the entrepreneur must obtain sufficient seed capital
to sustain the venture to the point at which its revenues exceed its expenses (it becomes
profitable).
 
Creating a financial plan helps the entrepreneur transform business goals into
reality. In the start-up stage, the entrepreneur should estimate the costs for entry into an
accounting system.
 
This estimate is achieved through pro forma financial statements; the three
primary financial statements that businesses use to forecast and record operating results:
o
o
o
The profit and loss statement,
The cash flow statement, and
The balance sheet.
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o At minimum, it is essential that the pro forma projections encompass the periods that include:
- The cash breakeven point: The point in the venture’s growth at which revenues exceed costs on a
routine (monthly) basis.
- The profit breakeven point: The point in the venture’s development at which the accumulated
negative profits are less than the accumulated positive profits.

The challenge in developing pro forma financial statements lies in building them on a foundation of
reasonable and reality-based assumptions.
- These assumptions provide a set of starting numbers such as price per unit and sales volume, that are
reasonable guesses.
- Once the assumptions have been set, they are used to develop the pro forma spreadsheet.
- Using a spreadsheet enables the entrepreneur to develop a number of what-if scenarios.
- In general, investors and lenders look at four criteria when evaluating the assumptions that underlie
financial statements:
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§
§
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Clarity of expression
Consistency with knowledge of commercial practices
Internal consistency
Comprehensiveness
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7-2a The Sales Forecast
• The sales forecast, or revenue estimate, is
necessary for an entrepreneur to produce the three
basic financial statements.
– It is easier for the entrepreneur to think in terms of unit
volume than total revenue to be generated.
– Once pricing has been set, the number of units sold will
determine revenue, as indicated in this equation:
•
P × V = R (price × volume = revenue)
– To account for different operating results, many
entrepreneurs develop more than one sales forecast,
often distinguished as worst case, base case, and best
case.
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7-2b The Profit and Loss
Statement
• The profit and loss statement (P&L) states
accurately and fairly the profit or loss of the
operations for a given accounting period using
GAAP rules.
– GAAP rules governing the P&L statement include:
• Revenue of any accounting period should have the appropriate
costs of acquiring that revenue attributed in the same
accounting period.
• Revenue spent on any item that has a useful life of more than
one year—a so-called capital good—is considered a capital
expense.
– Spreading the cost of a capital good over the period of
its useful life is called depreciation.
• Depreciation is called a non-cash expense.
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7-2b The Profit and Loss
Statement (cont.)
– All the operating costs of the company must be
included in one of the three cost categories:
• Cost of goods
• Selling costs
• General and administrative (G&A) costs
– The other categories are:
•
•
•
•
Gross profit
Gross margin
Sales and marketing expenses
Profit, or net income
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