The financial plan is an integral part of financial forecasting when starting a company – but it’s also much more. This accounting document is an excellent analytical support tool to help you first determine if your project is viable and then plan your finances throughout the life cycle of your business. How do you come up with this financial document and what data do you put in there? What is its role in your business plan as a whole? And how do you analyse it? The answers to all of these questions can be found in this article.
👉How to build a cash flow budget ?
The financial plan is a financial document (a table) that shows your requirements and resources.
Requirements: these are aspects that a company needs to fund when starting up. Investments at the start-up stage are varied – for an online seller they may include a website, whereas for a shoe manufacturer they may include some machinery.
Resources: these are the means available to the company and can come from a variety of different sources, such as subsidies or grants, interest-free loans, other borrowings and so on.
The financial plan is first and foremost aimed directly at financiers. It is an accounting document that provides reassures to them by:
- Proving to them that your project is funded effectively and in a stable manner
- Allowing them to see and gauge the risks being taken by the project sponsor
- Giving them a comprehensive overview of the financing situation
Drawing up a financial plan also helps to answer practical – if not essential – questions, such as:
- Is this the right time to start my business? If the plan reveals any financial instability, this is a warning sign of hypothetical bankruptcy
- Does the business model need to be revised? If the finances highlight that there are risks or fragility, this is an indication that you should reduce your long-term requirements. This could mean renting equipment rather than purchasing it or thinking about obtaining additional funding
When looking at financing and establishing a project, whether it’s a start-up, a recovery or a development, there are two types of financial plan to consider: an initial financial plan and a long-term financial plan.
As the name suggests, an initial financial plan is used at the start of a project. In this scenario, the aim is to make an inventory of the long-term requirements that are imperative for starting up and all of the long-term resources used to finance these requirements.
You need to do two things to create your initial financial plan:
- First, calculate your project’s long-term requirements
- Then, allocate the resources necessary to subsidise these requirements
This type of financial plan helps you to ensure that the long-term requirements that are essential to launching the project can be funded from the financial resources committed.
This table is based on the initial financial plan and aggregates the new data relating to the development and growth of your business across a number of predefined years (a period of three years is the most common).
The following new data is added:
- Long-term financial resources: we will look at potential self-financing capabilities, possible reduction in working capital requirement (WCR) and contributions from capital stock or borrowed funds
- Long-term requirements: repayment of borrowed funds, increase in WCR, dividends and new or recent investments
With a long-term financial plan, you can ensure that your company’s financial structure is strengthened and will be successful for the period under review.
In contrast, if the situation is in decline, then you will need to rethink how your company will operate and consider what actions to take to prevent it from facing medium- or long-term financial difficulties.
The cash flow plan is one of the four main financial business plan tables, which are:
- An initial financial plan
- A forecast income statement
- A cash flow plan
- A three-year forecast
A cash flow plan is a table showing all planned cash inflows and cash outflows month by month during your company’s first year of operation.
The table of the financial plan, on the other hand, contains two columns: one that identifies your investment requirements, such as the WCR, and another that shows your financial resources (e.g. loans and personal savings).
The difference between your requirements and your resources indicates either a cash surplus or a shortfall.
To help you get your financial plan right, here is a template table that you can use to get started.
|Intangible asset||140 000 £||Capital contributions||300 000 £|
|Property, plant and equipment||400 000 £||Investment grants||40 000 £|
|Total fixed assets||540 000 £||Bank loans||400 000 £|
|Change in WCR||50 000 £||Contributions in partner's current account||80 000 £|
|TOTAL||590 000 £||TOTAL||820 000 £|
|Cash flow||120 000 £|
|TOTAL||710 000 £||TOTAL||820 000 £|
The above example of an initial financial plan shows that the financial resources exceed the total requirements to be financed. In this situation, the company enjoys some flexibility to compensate for the incalculable aspects of its project.
When you first draw up an initial financial plan, you should aim to obtain sufficient financial resources to at least balance your plan, i.e. so that the total requirements are equal to the total resources.
Adding a cash flow row provides a useful indicator as it gives you an idea of how much leeway you have in case you need to deal with any unexpected eventualities.
When putting your project financing in place, you should also consider the difference between financing from your own funds (capital contributions, contributions from partners) and from borrowed funds. It is usually recommended that at least 30% of your project’s activities be funded using your own funds.
- You will incur a number of costs before your business even starts operating and these current expenses can include:
- Carrying out a market study
Putting together a financial plan with help from a chartered accountant
- All transport costs incurred when meeting with your partners, e.g. clients, suppliers etc.
- C__ommunication and marketing__ expenses, e.g. creating a website
- Filing a trademark or patent, acquiring licenses etc.
- Registration fees, solicitor/notary fees etc.
To do this, you have to list all of your direct and indirect costs.
Direct costs: these include remuneration for in-house staff (and remuneration for external staff, if you use consultants or contractors) and the costs of purchasing and/or renting equipment (rooms and computers, but also project-related supplies).
Indirect costs: these are all of your operating expenses, such as for heating and communications, and management costs, such as salaries for inter-departmental supporting functions (marketing, accounting, administrative)
A key component of the financial plan, the working capital requirement (WCR) must be estimated when you start operating.
The initial WCR is calculated as follows:
Initial WCR = initial stocks excluding tax (raw materials, goods) + VAT credit on stocks and investments + purchase invoices payable in advance
The intention here is to gather information on all of your internal financing solutions; there are three types:
Cash contributions: these are contributions from partners or shareholders in your company. In return, these contributors receive equity from the company. These contributions are incredibly useful when starting up a project as these funds benefit your company and are not intended to be repaid
Contributions in kind: these refer to all non-financial contributions and can include material assets such as computers, cars and property. Your company benefits from material assets as it enables you to commence operations without spending any money
Partner current account contributions : this solution gives partners and shareholders another way of contributing liquidity to your company. More specifically, this option is a loan granted by a partner to your company to finance its business
Assessing your external financing requirements is another important step in putting together a financial plan.
When a new entrepreneur has exhausted their personal financing solutions, they can turn to a financial institution for a bank loan. You can also make use of national or local institutional aid facilities – they can even open up avenues for tax exemptions and tax credit. Alternatively, you can also reach out to investment professionals, such as business angels, or explore crowdfunding solutions.
In terms of the overall quantity of resources, the balance of your initial financial plan will be either negative, balanced out or positive.
- Negative financial plan balance: this indicates that the total requirements are greater than the total resources. In this case, new funding must be sought
- Balanced financial plan: the total requirements are equal to the total resources. All the requirements needed to start your business are covered but you don’t have a safety net
- Positive financial plan balance: the total requirements are less than the total resources. All of the requirements needed to kick off your project are covered and you also have some room for manoeuvre
The requirements set out in your financial plan are broken down into several categories.
These costs correspond to cash outflows relating to the creation of your company, such as fees for formalities (e.g. registration, advertising), solicitors’ fees for drafting legal statutes, Companies House registration fees, tax or accounting advice costs and so on. Establishment costs are shown in the assets section of your balance sheet, under intangible assets.
These relate to all permanent acquisitions that make up your company’s assets. An acquisition is considered to be an asset if its unit price exceeds €500 (excluding tax).
- Intangible assets: these are all non-physical assets that are used solely for your company’s purposes over the long term (e.g. brand, patent, license, software, client database etc.)
- Tangible assets: these relate to physical assets that will be used over several accounting years. Some of the most frequent examples are land, computer equipment, furniture, machinery, vans and so on. These assets are used for your company’s activities (e.g. production, rental to third parties, supply of goods and services)
- Financial assets: in accounting, these are long-term assets of a financial nature that your company possesses. These frequently include equity shares, financial claims, loans granted to third parties and even safekeeping accounts and bonds
This refers to an amount of money that is financed to ensure that your company can operate under favourable conditions. WCR needs to be estimated when you launch your business. In fact, you will know your company’s short-term financing requirements (stocks, VAT etc.) from the very beginning.
As the name suggests, the start-up cash flow covers the first expenses that your company is exposed to – even before it receives any income.
So, how do you calculate your initial cash flow requirement?
To calculate your initial cash flow requirement, you need to anticipate certain events that may affect your cash flow in the months following the launch of your business. A cash flow plan is one of the most effective ways of doing this. This table will allow you not only to monitor but to anticipate all cash inflows and outflows. This financial table will provide you with a concrete monthly cash balance. If this balance is negative, this indicates that the initial cash flow estimate is insufficient and fragile. In this way, it’s used as a tool for forecasting financial risks.
You have several options for funding your start-up cash flow:
- Personal contributions
- Cash flow financing
- Other funding options
In order to be able to meet all of your initial requirements and your working capital requirement, you have to set out your financial resources.
These assets are made up entirely from contributions made by the founder of the company and their potential partners. These contributions can be obtained in different ways, such as crowdfunding or personal bank loans. When starting a business, the business generated is often not sufficient to create the cash flow needed to finance the operating cycle. All of these resources take care of this.
This refers to the different types of loan taken out by your company. Most of the time, they are requested from banks or credit institutions and can include business start-up loans or interest-free loans. All of these elements must be included in your financial plan.
Self-financing capacity is an important indicator within your financial plan that must be calculated and included regardless of the size of your project and whether or not your company is applying for a loan. In concrete terms, self-financing capacity refers to the resources that are freed up by your company and are potentially cashable. These resources come from operational activities. Essentially, they are used to pay the shareholders, pay suppliers, pay taxes and, most importantly, to make ongoing investments.
The three-year financial plan is an accounting table that is made up of two main parts, just like the initial financial plan:
- Resources (projected income)
- Requirements (how this income is used)
The purpose of the plan is to identify whether the company has a financing shortfall or a financing excess over the next three years. Gathering this information is particularly useful because when it highlights a need for financing, you know that you need to seek new financing from investors or banks. If you have a surplus, you can decide to make new investments to support your growth.
As discussed previously, the initial financial plan is a basic tool. Beyond that, all events relating to the years being budgeted must be included.
The key elements to include are:
- New investments made
- New capital contributions or partner current account contributions
- Borrowed funds
- Dividend distributions
- Variance in the working capital requirement
- Capacity for or lack of self-financing
In accounting, ratios allow you to gain an overall picture of your company’s financial health. There are a number of ratios and we have listed a few below:
When you are managing a business start-up or business development project, there is one parameter to take into account – your debt capacity. It’s impossible to borrow all of the financing you require, so you have to estimate your borrowing capacity. When you borrow, the bank usually funds up to 70% of your project budget, with the remaining 30% coming from personal contributions.
This indicator tells you how many years it will take to repay your loans. Repayment capacity is calculated as follows:
Repayment capacity = net debt / repayment capacity
You need to know that your company’s capacity for repaying your liabilities is not the only variable that the bank will be scrutinising. Other parameters, such as the net debt ratio or gearing ratio, are analysed too. The debt ratio measures the level of a company’s debt in relation to its own capital. Credit institutions pay considerable attention to this ratio as it indicates your repayment capacity. In other words, it measures your credit rating.
The debt ratio is calculated as follows:
Debt ratio = financial debt / equity
The aim of this comparative review is to ensure that the initial requirements related to the launch of your activity have been covered and that your structure remains stable and healthy across all of the budgeted years.
Don’t forget that for your company’s financing to be sustainable and viable, the sum of the requirements must be equal to or less than the sum of the resources.
Ideally, the total amount of resources should be higher, as this leaves room for manoeuvre in the event of unforeseen circumstances.
When requirements are too high When requirements are high and threaten to upset the balance, the first thing you need to do is consider other sources of external financing. If this happens, be careful not to destabilise personal contributions and borrowed funds. Doing this will actually impact your repayment capacity.
Essentially, you should use this financial table for forecasting purposes, incorporating variances in the working capital requirement and dividends over several accounting years. In doing so, your initial financial plan will grow into a fully-fledged forecast.
The financial plan is useful in many ways: it assesses your project budget, it helps you to identify financial partners and it helps you know if bank financing is an option. It is undoubtedly a vital tool from the moment it is first created and can be used by any company, whether it’s a very small business (VSB), small and medium-sized enterprise (SME) or large company.
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