for a Successful Business
Edward F. Saroney III
MAY 2005 - Entrepreneurs
often attempt to build a business without a blueprint—a
comprehensive financial forecast or financial projection.
A financial forecast assumes the business’ operations
will continue on a set course, with no major changes. The
operative phrase is “set course.” Preparing a
monthly financial forecast sets the course for a given period
of time, usually a year. Once done, actual monthly results
should be measured against the monthly forecast. If there
are no significant deviations, the business is under control.
Otherwise, the plan needs adjusting.
business owners attempt to build a business without a financial
forecast because they trust their instincts. This may provide
short-term success, but can result in long-term failure.
Often a company has financial problems long before the owner
or management realizes the extent of the trouble, at which
point it’s usually too late to turn the company around.
financial forecasts do not guarantee success, a forecast
does signal for immediate attention to problem areas. Responding
to problems quickly increases the business’ chances
for long-term success.
is different from a forecast. A financial projection, unlike
a forecast, assumes the business will undertake some major
change. Generally, financial projections should be prepared
for start-up businesses as well as existing businesses that
are contemplating a major investment, such as the acquisition
of another company, the development of a new product line,
a major equipment purchase, or some other significant capital
projections enable management to make smart business decisions
before expending company resources or incurring debt. Given
certain assumptions, management can assess the risk of debt
payback for a significant capital expenditure. For example,
assume a business is considering an acquisition and the
financial projection indicates the debt payment will be
tight. With this information, the owners can renegotiate
the purchase price, renegotiate the payment terms, or reconsider
the purchase altogether.
financial forecast or projection includes the following
documents, broken out on a monthly basis:
Forecasted or projected statement of operations;
Forecasted or projected statement of cash flows;
Forecasted or projected balance sheet; and
Statement of significant assumptions.
companies prepare only a forecasted statement of income,
erroneously believing that this will be adequate to provide
them with the information they need to be successful. Cash
flow forecasts are also essential. Although actual monthly
operations might proceed in line with an annual income forecast,
a negative cash flow might hamper an company’s ability
to continue with its plans. Possible reasons for a cash
flow crunch include the following:
Poor billing of work in progress;
Inadequate collection efforts; or
Insufficient lines of credit.
a company prepares a comprehensive financial forecast, such
problems will be immediately apparent and can be addressed.
Unaddressed problems can result in a company leaving money
on the table and risking its financial solvency. In addition,
upon reviewing the forecast, management would have learned
important information about the company’s operations
and gained confidence that its operations were under control.
organizations also need financial forecasts and projections
to ensure their success and continued existence. Because
nonprofits typically operate under a tight budget, they
sometimes hesitate to spend the necessary dollars for the
preparation of a financial forecast. Because of their very
thin equity base, however, a grasp and understanding of
an organization’s complete financial position is paramount.
The board of directors of a nonprofit organization has a
fiduciary obligation to exercise due diligence. Lack of
a financial forecast can call into question the board’s
judgment and ultimately lead to an organization’s
forecasts and projections are also critical for banks’
loan officers. Bankers generally insist on detailed projections
before approving any start-up business or business acquisition
loan. Bankers should also require financial forecasts from
existing clients. If a business’ profits begin to
erode, bankers will typically review the historical financial
statements and discuss possible reasons with the business
owner. Historical information, however, does not provide
the banker with information on the future solvency of the
business. The financial forecast is what alerts the banker
to critical issues that need addressing. The banker can
then make an informed decision about the banking relationship.
F. Saroney III, CPA/ABV, CVA, is a principal with
Fagliarone Group CPAs, Syracuse, N.Y., specializing in the
area of business valuations and business forecasts/projections.