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I am writing my first business plan. I have gotten through the marketing and operations sections but now I am into the financial section and feel a bit lost. I haven't really gotten my business going yet, and yet I have read everywhere that I should include financial projections. The pro forma balance sheet I sort of get, but what about income forecasts? I don't have any idea what to put there.

Should I just put something there as a placeholder and figure I will get better at it? Should I just make some guesses?

  • (real question I had when getting started. Going to share my answer below. other answers welcome.) – Chris Travers Jun 1 '13 at 10:29
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So you are just starting your business. You have no background in doing the forecasting and you are confronted with what to put here. It's scary.

Introduction

The good news is that you don't have to take this too seriously in this case. Chances are your estimates are either targets or just guesses anyway. As we get better at it, we typically just get better at making guesses. No matter what you do you will still be guessing. You really want to make what you do count for something though.

There are two reasons for financial projections in the business plan. The first is to make you think about the financial feasability of your business, and the second is to give you an idea of what you think is attainable.

Start with your fixed expenses

The first thing to do is to start with budgeting expenses. Here you may not know what you will have to do anyway and there are a lot less unknowns with expenses than there are revenues. You can start there, come up with budgets, add some extra room, and project your expenses accordingly. If you start here, then when you get done, you will have an idea of how much you have to make to break even. Break this up by category (rent, advertising, telecommunications, etc).

Expenses are important here for two reasons. They represent the floor of profitability, debt you may incur getting started, and so forth. If you can't make back your expenses you will go out of business.

Secondly, because expenses represent the floor, they give you an idea of how much business you have to do to overcome these fixed expenses. This allows you to estimate a break even point.

Now, don't forget to budget a reasonable amount every year for replacement equipment (computers etc). Treat this as an expense that is incurred a bit at a time rather than all at once. If you figure you need $4000 of equipment to get started up, and you will have to replace it entirely every 5 years, budget $800/year. This allows you to save up for replacements rather than having it all happen at once.

Then look at production costs and sales revenues together

Production costs unlike fixed costs, get tracked relative to sales. You may say you don't have production costs but you in fact may. If you are selling software licenses as part of your business, your expenses are your purchase price and your sales price is revenue. We track these together always (at least in accrual basis). If you are doing freelance writing, you may want to budget something for printing hardcopies for review. If you have to subcontract for part of the forecast, include what you are paying out.

Then what you can do is figure out how long you think it will take you for your gross profits to equal your fixed expenses (since you have numbers now you can look at). You can look at how much you have to do to make what you need.

If things don't look attainable

If profit doesn't look attainable, you need to rethink your plan. This means starting with expenses, asking what you really need, what you can scale down, how this changes your assumptions and see if you can find a plan that looks reasonable where profit is attainable. Keep in mind that many businesses simply run out of money and often what makes successful businesses successful is that they become creative when this happens and find ways to continue. However you can't count on that here, and you have a much better shot of making it work if you spend time really looking at and trying to carefully understand both your revenue and expense projections as well as the scenarios where things may work.

Conclusions

The above doesn't take the guesswork out of the forecasts. Especially since the business is just stating, any forecast you come up with will be based mostly on guesses. What it does do however is give you a clear picture of what you have to do to make your business successful and whether that success is reasonably attainable and when you are starting out that is the most important thing you can get out of the financial section of the business plan.

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