6 steps to making financial projections for your new business
Read time: 3 minutes
A business plan is one of the key building blocks of any new company. One of its main components should be financial projections for your first two years.
These projections are forecasts of your cash inflows and outlays, income and balance sheet. They show bankers and investors how you will repay loans, what you intend to do with your money and how you will grow. They also help you identify financing needs, optimize your pricing, plan production, time major expenditures and monitor your cash flow.
It’s normal for some of your initial numbers to be rough guesses since sales will usually be hard to predict. Here are the steps to create your financial projections for your start-up.
1. Project your spending and sales
As you develop your business plan, list the key expenditures you will need to make to get your company off the ground and your subsequent costs to operate. Be sure to include recurring expenses—salaries, rent, gas, insurance, marketing, raw materials, maintenance and the like—and one-time purchases, such as machinery, website design and vehicles. Research industry spending to get a better idea of the numbers.
Also, create a sales forecast and use it to project anticipated monthly revenues. A careful study of your potential market will help you arrive at realistic numbers.
2. Create financial projections
Plug your expenses and revenues into a cash flow projection that shows monthly inflows and outflows of money for the first 12 months of operations. For the second year, you can make quarterly or yearly projections.
To create the projections, you can use an Excel spreadsheet or tools available in your accounting software. Don’t assume sales equal cash in the bank right away. Enter them as cash only when you expect to get paid based on industry averages and any prior experiences of your team.
Use your cash flow projections to prepare annual projected income (profit and loss) statements and balance sheet projections.
3. Determine your financial needs
Your financial projections will help you see if your business plans are realistic, whether you’ll have any shortfalls and what financing you may need. The documents will also be vital for building a case for business loans.
4. Use the projections for planning
It can be useful to include various scenarios—most likely, optimistic and pessimistic—for each projection in order to help you foresee the financial impacts of each one.
Your projections can also help you analyze the impacts of different strategies for your new business. What if you charged a different price? Or were able to collect bills more quickly? Or opted for more efficient equipment? Plugging in various numbers shows how such decisions would affect your finances.
5. Plan for contingencies
What would you do if an unexpected event threw off your projections? It’s a good idea to do some contingency planning ahead of time. Also consider setting aside a cash reserve, just in case. Many entrepreneurs like to have enough cash for 90 days of operations (including cash in the bank and/or room on their line of credit).
As your business starts operations, compare your projections against actual results to check if you’re on target or need to make changes. Monitoring helps you learn about your company’s cash flow cycle and spot looming shortfalls early on, when they’re usually easier to address.