SIFE Lakehead 2009 Financial Forecasting AGENDA 1. 2. 3. 4. 5. 6.

Introductions Purpose of Financial Forecasts Characteristics of Good Financial Forecasts The Importance of Cash Flow Forecasting and Recognizing Assumptions taken Financial Forecasts that will be required Break Even Analysis (understanding of the economics of your business) Initial Investment Schedule Cash Flow Forecasts (Monthly Cash Budget) Pro forma Income Statements Pro forma Balance Sheets Subsidiary forecasts loan amortization schedules and capital cost allowance schedules Statement of Forecast Assumptions An overview of the purpose of each forecast and their interrelationships Data Requirements and how they may be generated Annual Sales Forecast Monthly Sales Forecast for the First Year The Monthly Cash Budget The First Years Pro Forma Income Statement the differences between a cash budget and pro forma income statement The first years Balance Sheet Forecasting for years two and three Analyzing the forecasts Making adjustments to the forecasts Presentation of financial forecasts and the results/conclusions of those forecasts in the Business Plan

7. 8. 9. 10. 11. 12. 13. 14. 15. 16. 17.

Ken Hartviksen Faculty of Business Administration Lakehead University Ken.hartviksen@lakeheadu.ca 343-8497

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Subsidiary Forecasts Break Even Analysis Purpose: 1. Forecast the number of units that must be produced and sold (annually) in order to break even. 2. Examine the cost/volume/profit relationships to test alternative plans and the impact on the basic economics of the business 3. Serve as benchmark for controlling the implementation of the business. Formula:
Break - even point (units) = Annual Total Fixed Costs Annual Total Fixed Costs = Unit Contributi on Margin Selling Price per unit - variable cost per unit

Example: Your firm faces $300,000 in annual fixed costs (lease costs, selling and administration, depreciation). You plan to sell your product to the consumer for $15.25 per unit Your variable costs to produce each unit (direct materials and direct labour) is $8.45
Break Even Point (units) = $300,000 $300 ,000 = = 44 ,117 .6 = 44,118 units $15.25 - $8.45 $6.80

Now compare this to your market sales forecast in units. If you think you can produce and sell only 25,000 units.forget itthis is not an economic business. You can also forecast the breakeven point in sales dollars:
Break - even point (sales dollars) = Annual Total Fixed Costs $300 ,000 $300 ,000 = = = $672 ,794 .12 .4459 Variable Cost Per Unit 1 $8.45 1- $15 .25 Selling Price per unit

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The Loan Amortization Schedule Most fixed-term loans involve a blended repayment scheme that sees you repay the loan over say 5 years, at a fixed rate on a monthly basis. Any loan involves loan repayments. These payments affect the cash flow of your business. You will use these forecast loan payments in your cash flow forecasts The interest portion of the loan is a tax-deductible expense of the firm. You will use the forecast annual interest expenses in your pro forma income statements.
Effective Annual Rate (semi - annual compoundin g) = (1 + Solving for the Monthly rate : .071225 = (1 + rm )12 1 1.071225 1 / 12 = 1 + rm rm = 0.00575 .07 2 ) 1 = 7.1225 % 2

Example assuming a one year $10,000 loan at 7% APR:

Loan Amount Monthly Interest Rate Loan Month Principal January $10,000.00 February 9,192.72 March 8,380.80 April 7,564.21 May 6,742.92 June 5,916.91 July 5,086.16 August 4,250.62 September 3,410.28 October 2,565.11 November 1,715.08 December 860.16 Total = $10,000 0.00575 Interest Payment $57.50 $864.78 $52.86 $864.78 $48.19 $864.78 $43.49 $864.78 $38.77 $864.78 $34.02 $864.78 $29.25 $864.78 $24.44 $864.78 $19.61 $864.78 $14.75 $864.78 $9.86 $864.78 $4.95 $864.78 $377.69 $10,377.36 Principal Retired $807.28 $811.92 $816.59 $821.29 $826.01 $830.76 $835.53 $840.34 $845.17 $850.03 $854.92 $859.83 Ending Principal $9,192.72 $8,380.80 $7,564.21 $6,742.92 $5,916.91 $5,086.16 $4,250.62 $3,410.28 $2,565.11 $1,715.08 $860.16 $0.33

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The CCA Schedule This example assumes you acquire $32,880 worth of Class 6 assets in your first year of business, that the class is eligible for a 10% CCA rate and that you are able to use the maximum amount of CCA in each year. The schedule predicts the maximum amount of CCA you can claim in years 1, 2 and 3 for income tax purposes.
1 Class number 2 Undepreciated capital cost (UCC) at the start of the year 3 Cost of additions in the year 4 Proceeds of dispositions in the year 5 6 UCC Adjustments for after additions current year and additions (1/2 dispositions times (col. 3 (col. 2 plus 3 minues 4)) If minus 4) negative, enter "0" 0.00 32,880.00 16,440.00 7 Base amount for capital cost allow ance (col. 5 minus 6) 8 Rate % 9 CCA for the year (col. 7 times 8 or an adjusted amount) 10 UCC at the end of the year (col. 5 minus 9)

6 6 6

0.00 31,236.00 28,112.40

32,880.00 0.00 0.00

0.00 0.00

31,236.00 28,112.40

0.00 0.00

16,440.00 31,236.00 28,112.40

10% 10% 10%

1,644.00 3,123.60 2,811.24

31,236.00 28,112.40 25,301.16

Sample Initial Investment Schedule

Schedule 3

Toxic Chemical Assessments Limited

Initial Investment and Proposed Financing Initial Startup Costs Work ing Capital: Cash Other Assets: Incorporation, e-mail, web site design Accreditation $100,000.00 $15,000.00 $30,000.00 Proposed Financing Shareholder Invesment: Shelley Write $100,000.00 Freddy Khan $35,000.00 Sara Jesper $40,000.00 Antonio Balgeras $5,000.00 Borrowing: FedNor/ Royal Bank

Fixed Assets: Computer Systems (5), scanner, printer Office Equipment Equipment Office space Lab space demolition Painting touch-ups Refrigeration of 3 storage areas Shelving for storage areas Mechancial for storage areas Modular labs Lighting and fixtures Other Fixed Asset Sub total = TOTAL =

$15,000.00 $10,000.00 $276,000.00 $7,000.00 $7,500.00 $5,000.00 $40,000.00 $16,000.00 $10,000.00 $85,000.00 $13,000.00 $26,500.00 $511,000.00 $656,000.00

$476,000.00

TOTAL =

$656,000.00

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Sample Cash Budget

January Cash Receipts: Cash Sales Sale of Fixed Assets Total Cash Receipts Cash Disbursements: Payments on A/P Wages and Benefits Heat, Light, Water Purchase of Fixed Assets Total Cash Disbursements Net Cash Inflow (Outflow) Beginning Cash Ending Cash without financing 12000 12000 7800 1800 2000 7000 18600 -6600 5000 -1600

February 20000 0 20000 13000 3000 2000 18000 2000 -1600 400

March 20000 20000 13000 3000 2000 0 18000 2000 400 2400

Total 52000 0 52000 33800 7800 6000 7000 54600

Note: cash budgets contain only cash receipts and cash disbursements (never depreciation) They will include loan payments (both principal and interest) Analyzing Your Forecast Financial Position Financial Ratios Liquidity Ratio:
Current ratio = Current Assets Current Liabilitie s

Debt Ratio:
Total Debt Total Assets

Debt Ratio =

Profitability Ratios:
Net Profit Margin = Forecast Net Income Forecast Total Sales Revenue
Forecast Annual Net Income Total Owners Equity Forecast Annual Net Income (invested capital) = ROI = Total Debt + Total Owners Equity

Return on Equity = ROE = Return on Investment

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Sample Pro Forma Income Statement

Schedule 8

Sample Business Inc

Pro Forma Income Statement for the year ended December 31, 2004 Sales Revenue Other Income Total Income Less: Operating Expenses: Office Supplies Telephone Courier Services Lab Supplies Internet Service Provider Consulting Fee Expenses Salaries, Benefits and Training Costs Licensing and Training Costs Other Expenses: Advertising Insurance Professional services - legal services, incorporation, etc Professional services - web site design External Auditor Fees Depreciation Expense (Capital Cost Allowance) Financing-related Expenses: Interest on Bank Loan Total Expenses Earnings before taxes Taxes 20% Net Income Dividends Additions to Retained Earnings Number of Shares Outstanding Earnings Per Share $43,000 0 $43,000

$2,100 1,440 2,400 0 240 4,300 428,000 39,925 53,000 10,000 4,000 6,000 5,000 75,150 77288.691 $708,844 -665843.7 -133168.7 -$532,675 $0 -$532,675 3300 -$161.42

Note: The pro forma income statement can be taken from the totals found on your cash budget however, the income statement will include non-cash items like depreciationand will ONLY include the interest expense on loan payments (not the sum of the loan payments).

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Sample Pro Forma Balance Sheet

Schedule 9

Example Inc.
Pro Forma Balance Sheet as forecast at December 31, 2004

Assets Cash Accounts Receivable Inventories Gross Fixed Assets Accumulated Depreciation Net Fixed Assets Intangible Assets TOTAL ASSETS 511,000 75,150 435,850 45,000 $838,010 $357,160

Liaibilities and Owners Equity Accounts Payable Bank Loan Owner's Equity: Common stock Retained Earnings

1,653,863

220,000 -532,675

TOTAL LIABILITIES AND O.E.

$1,341,188

NOTE: The foregoing are only examples of financial statements. Each must be modified to suit your business. The following schematic illustrates the process you will need to follow to develop your integrated financial forecasts:

Sales Forecast Initial Investment Detailed Expense Forecasts

Loan Amortization Schedule

Capital Cost Allowance Schedule

Cash Budget

Pro Forma Income Statement

Pro Forma Balance Sheet

Analyze forecasts, adjust inputs and forecast again.

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