New Venture’s Financial

Strength and Viability

Chapter 8: (Bruce)

Session 11
Chapter Objectives
• Explain two functions of financial management of a firm
• Identify four main financial objectives of entrepreneurial firm
• Explain difference between historical and pro forma financial
statements
• Explain the purpose of income statement
• Explain the purpose of balance sheet
• Explain the purpose of statement of cash flow.
• Discuss how financial ratios are used to analyze and interpret firm’s
financial statements
Chapter Objectives
• Discuss the role of forecast in projecting firm’s future income and
expenses.
• Explain what a completely new firm basis its forecast on.
• Explain what is meant by the term percent of sales method.
• Financial management deals with such questions.
• How much cash do we have on hand?
• Do we have enough cash to meet short term obligations?
• How efficiently are we utilization our assets?
• How do our growth and net profits compare to those of our
industry peers?
• Are there ways we can partner with other firms to share risk and
reduce the amount of cash we need?
Financial Objectives of Firm
Profitability Liquidity Efficiency Stability

• Ability to • Ability to • Ability to • To keep

earn profit meet short utilize debt in
term firm’s check
obligations assets • Debt-to-
• Reduce relative to equity ratio.
assets: sales or
inventory profits.
and
account
receivables.
Process of Financial Management
Financial Statements & Forecast

Historical Pro-forma
Financial Financial
Statements Statements
Historical Financial Statements
Statement of Cash
Income Statement Balance Sheet
Flows
• Results of • Snapshot of • Summarizes
operations of a firm company’s assets, changes in firm’s
• Profit and loss liabilities and cash position for a
statement owner’s equity specified time
period.
• Details why
changes occurred.
Income Statement
• Net sales = Sales – COGS
• COGS = Direct material + Direct Labor cost
• Operating Expenses: Marketing + Administrative + Other
Income Statement (new venture fitness drink)
Analysis of Income statement
• Analyze cost of sells trends for three years.
• Analyze profit margin = Income / Net Sales
• Profit Margin identifies how much amount is remaining to
contribute other expenses.
Balance Sheet
Balance Sheet
• New venture fitness Drink
• Liquidity
• Working capital = Current
assets – current liabilities
• Current ratio = current
assets / current liabilities
• Debt ratio = total debt /
total assets
Statement of cash flow
(new venture fitness
drink)
Statement of cash flow

Operating activities Investing activities Financing activities

•Net income – •Purchase and •Borrowing money

depreciation sales of fixed •Selling and buying
•Changes in assets back stocks
current assets •Paying dividends
•Changes in •Buying back
current liabilities bonds
Ratio analysis
Forecasting
• Forecasting is prediction of firm’s future sales, expenses, income,
and capital expenditure.
• It is basis for pro forma financial statements
• Forecast for two to three years.
• Forecast for existing firm is based on
• Record of past sales
• Current product capacity and demand
• Factors affect future capacity and demand
Forecasting
• Factors into considerations
Forecast of cost of sales and other items
• Percent-of-sales method: historical COGS percentage to sales.
• Item by item precise forecasting
• Break-even analysis
Pro Forma
Income
Statements
Pro Forma
Balance Sheet
Pro Forma
Statement of
cash flow
RATIO ANALYSIS
 FINANCIAL CONSTRUCTION
CHECKLIST
Build-Up Method
1. Identify all your sources of revenues
2. Determine your revenues for a “typical day”
3. Understand your revenue drivers
a. How many customers you will serve
b. How much product they will buy
c. How much they will pay for each product
d. How often they will buy
4. Validate driver assumptions
a. Primary research (talk to customers, attend trade shows,
etc.)
b. Secondary research (industry reports, company reports,
etc.)
5. Recombine. Multiply the typical day by the number of days in a
year
6. Determine Cost of Goods Sold (COGS) for a typical day
7. Recombine. Multiply COGS by number of days in a year
8. Determine operating expenses by most appropriate time frame
9. Refine operating costs
10. Create preliminary income statement
Comparable Method
11. Compare revenue projections to industry metrics
12. Run scenario analysis
13. Compare common-sized cost percentages to industry
averages
Building Integrated Financial Statements
14. Derive monthly income statements for first two years,
yearly statements for year 3–5
15. Create balance sheet (yearly for year 1–5)
16. Create cash-flow statement (monthly for years 1 and 2,
yearly for years 3–5)
Final Steps
17. Write a two- to three-page description of financial
statements
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REVENUE WORKSHEET

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COST OF GOODS WORKSHEET

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OPERATING EXPENSES WORKSHEET

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HEADCOUNT TABLE

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INCOME STATEMENT

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COMPARABLE METHOD

Choose industry metrics

Benchmark similar companies in

industry

Compare your company to

industry average and other
companies

Copyright © 2014 John Wiley & Sons, Inc.

COMPARABLE ANALYSIS

Copyright © 2014 John Wiley & Sons, Inc.

INTEGRATED FINANCIAL STATEMENTS

Copyright © 2014 John Wiley & Sons, Inc.