financial plan-1.feasibility studies economics

economical analysis

1. Financial and Financial and
Economic EvaluationEconomic Evaluation
Show me the Money!!!Show me the Money!!!

2. Financial StatementsFinancial Statements
Balance SheetBalance Sheet
Income StatementIncome Statement
Pro Forma Statements Pro Forma Statements
Cash BudgetCash Budget
Break-Even AnalysisBreak-Even Analysis
NPV AnalysisNPV Analysis
ROI AnalysisROI Analysis
IRR AnalysisIRR Analysis

3. Importance of Financial InformationImportance of Financial Information
Evaluate your businessEvaluate your business
Measure financial performanceMeasure financial performance
Determine funding requirementsDetermine funding requirements

4. Importance of Financial InformationImportance of Financial Information
Key Questions to AnswerKey Questions to Answer
–What is the total cost to open the business?What is the total cost to open the business?
–What will be the total income to support costs?What will be the total income to support costs?
–What is your monthly cash flow during 1st year?What is your monthly cash flow during 1st year?
–What are your monthly financial needs?What are your monthly financial needs?
–What sales volume will you need to make a What sales volume will you need to make a
profit during the first three years?profit during the first three years?
–What will be your break-even sales?What will be your break-even sales?
–What will be your projected assets, liabilities, What will be your projected assets, liabilities,
and net worth on the day you open?and net worth on the day you open?

5. Importance of Financial InformationImportance of Financial Information
Other Important Reasons:Other Important Reasons:
–Ratio analysisRatio analysis
–Financial statement projectionsFinancial statement projections
–Inventory managementInventory management
–Accounts receivable managementAccounts receivable management
–Cash managementCash management
–Capital structureCapital structure
–Business plan outlineBusiness plan outline

6. Balance SheetBalance Sheet
Financial condition of the business at a Financial condition of the business at a
point in time (specific day)point in time (specific day)
Shows:Shows:
–What the business owns (assets)What the business owns (assets)
–Who the business owes money to (liabilities)Who the business owes money to (liabilities)
–How much the owners have contributed to the How much the owners have contributed to the
business (equity)business (equity)
Assets = Liabilities + Owner’s EquityAssets = Liabilities + Owner’s Equity

7. Sample Balance SheetSample Balance Sheet
Current AssetsCurrent Assets Current LiabilitiesCurrent Liabilities
CashCash Accounts PayableAccounts Payable
Accounts ReceivablesAccounts Receivables Accrued ExpensesAccrued Expenses
InventoryInventory Current Portion of DebtCurrent Portion of Debt
Prepaid ExpensesPrepaid Expenses Total Current LiabilitiesTotal Current Liabilities
Total Current AssetsTotal Current Assets
Long-Term LiabilitiesLong-Term Liabilities
Long-Term AssetsLong-Term Assets Bank LoanBank Loan
Property, Plant, & Property, Plant, &
EquipmentEquipment
Total LiabilitiesTotal Liabilities
DepreciationDepreciation Owner’s EquityOwner’s Equity
Total LT AssetsTotal LT Assets Paid-in Capital and R/EPaid-in Capital and R/E
Total AssetsTotal Assets Total Liabilities & Owner’s EquityTotal Liabilities & Owner’s Equity

8. Balance SheetBalance Sheet
Evaluate Balance SheetEvaluate Balance Sheet
–Look at TrendsLook at Trends
–Look at Financial RatiosLook at Financial Ratios
Inventory Turnover (COGS/Average Inventory)Inventory Turnover (COGS/Average Inventory)
Accounts Receivable Turnover (Sales to Avg A/R)Accounts Receivable Turnover (Sales to Avg A/R)
Accounts Payable Turnover ((COGS-Beg Inv+End Accounts Payable Turnover ((COGS-Beg Inv+End
Inv)/Avg Accts Payable)Inv)/Avg Accts Payable)
Days Sales Outstanding (Accts Rec/(Sales/365))Days Sales Outstanding (Accts Rec/(Sales/365))
Avg Payment Period (Accts Pay/(Purchases/365))Avg Payment Period (Accts Pay/(Purchases/365))
Current Ratio, Quick Ratio, Working CapitalCurrent Ratio, Quick Ratio, Working Capital

9. Balance Sheet – Movie TheaterBalance Sheet – Movie Theater
Movie TheaterMovie Theater
–Name some of our current assets?Name some of our current assets?
–Name some of our long-term assets?Name some of our long-term assets?
–Name some of our current liabilities?Name some of our current liabilities?
–Name some of our long-term liabilities?Name some of our long-term liabilities?

10. Income StatementIncome Statement
Profit & Loss StatementProfit & Loss Statement
–Sales (Sales Price x Number of Units Sold)Sales (Sales Price x Number of Units Sold)
–Cost of Goods Sold (Beginning Inventory + Cost of Goods Sold (Beginning Inventory +
Purchases - Ending Inventory)Purchases - Ending Inventory)
–Gross Profit (Sales less COGS. Also, look at Gross Gross Profit (Sales less COGS. Also, look at Gross
Margin, which is Gross Profit to Sales)Margin, which is Gross Profit to Sales)
–Operating Expenses (Salaries, Utilities, Depreciation, Operating Expenses (Salaries, Utilities, Depreciation,
Rent, Advertising, etc.)Rent, Advertising, etc.)
–Net Operating Income (EBIT)Net Operating Income (EBIT)
–Interest Costs (Cost of Financing Operations)Interest Costs (Cost of Financing Operations)
–Income TaxesIncome Taxes
–Net Income or Net LossNet Income or Net Loss

11. Sample Income StatementSample Income Statement
Fiscal year endedFiscal year ended 20042004 2003 2003 2002 2002

Net SalesNet Sales $1,364,850$1,364,850 $1,237,604$1,237,604 $1,130,858$1,130,858
COGS COGS 806,816 806,816 728,229 728,229 680,475 680,475
Gross ProfitGross Profit 558,034558,034 509,375 509,375 450,383 450,383
Gen. & Operating ExpGen. & Operating Exp 286,576 286,576 255,723 255,723 209,319 209,319
Operating IncomeOperating Income 271,458271,458 253,652 253,652 241,064 241,064
Interest Income, NetInterest Income, Net (5064) (5064) (7,801) (7,801) (7,270) (7,270)
Income Before TaxesIncome Before Taxes 276,522276,522 261,453 261,453 248,334 248,334
Income TaxesIncome Taxes 107,850 107,850 103,320 103,320 99,730 99,730
Net IncomeNet Income $168,672$168,672 $158,133 $158,133 $148,604 $148,604
Amounts are In Thousands Amounts are In Thousands

12. Income StatementIncome Statement
Movie TheaterMovie Theater
–What are some of our sources of revenues?What are some of our sources of revenues?
–What are some of our expenses?What are some of our expenses?

13. Pro Forma StatementsPro Forma Statements
Projected statements for future periodsProjected statements for future periods
Includes:Includes:
–Sales forecastsSales forecasts
–Expense forecastsExpense forecasts
Use:Use:
–Financial statements from previous year and make Financial statements from previous year and make
adjustments based upon your assumptions.adjustments based upon your assumptions.
–Beginning financial statements for new companies. Beginning financial statements for new companies.

14. Why Use Pro Forma Statements?Why Use Pro Forma Statements?
Allow managers and owners sufficient time Allow managers and owners sufficient time
to control operations or seek alternatives to control operations or seek alternatives
to improve profitabilityto improve profitability
Estimate liquidity (cash) position for Estimate liquidity (cash) position for
borrowing needs or capital contributions borrowing needs or capital contributions
by ownersby owners

15. Pro Forma StatementsPro Forma Statements
Make assumptions to explain how numbers are Make assumptions to explain how numbers are
derived. derived.
List all assumptions, such as percent of market List all assumptions, such as percent of market
captured by your companycaptured by your company
Correlate assumptions with information in other Correlate assumptions with information in other
parts of the plan.parts of the plan.
Rest of financial plan (such as balance sheet) is Rest of financial plan (such as balance sheet) is
an outgrowth of the assumptions.an outgrowth of the assumptions.

16. Pro Forma StatementsPro Forma Statements
Examples of assumptions for financials:Examples of assumptions for financials:
–Percent of market Percent of market
3% of target market growing to 5% of market3% of target market growing to 5% of market
–Percent of previous results Percent of previous results
Sales growth of 15% per year for first three yearsSales growth of 15% per year for first three years
–Expenses as a percent of sales Expenses as a percent of sales
Administrative costs will be about 10% of salesAdministrative costs will be about 10% of sales

17. Pro Forma StatementsPro Forma Statements
Business Plan – Three sets of income Business Plan – Three sets of income
statements statements
–Best Case ScenarioBest Case Scenario
–Worst Case ScenarioWorst Case Scenario
–Most Likely ScenarioMost Likely Scenario

18. Cash BudgetCash Budget
Helps determine when cash will come in, Helps determine when cash will come in,
where it will come from, and how it will be where it will come from, and how it will be
usedused
Cash budget helps to determine funding Cash budget helps to determine funding
that will be neededthat will be needed
Net Income does not always equal Net Income does not always equal
increase in cash due to accrual accountingincrease in cash due to accrual accounting

19. Cash BudgetCash Budget
Cash inflowsCash inflows
–Cash salesCash sales
–Cash payments received on accountCash payments received on account
–Loan proceeds and Issuing Stock or BondLoan proceeds and Issuing Stock or Bond
Cash OutflowsCash Outflows
–Cash purchasesCash purchases
–Interest costInterest cost
–Salaries and other costSalaries and other cost

20. Steps to Cash BudgetSteps to Cash Budget
1.1.Forecast SalesForecast Sales
2.2.Forecast Expenses including inventory Forecast Expenses including inventory
purchasespurchases
3.3.Identify sources and uses of cashIdentify sources and uses of cash
4.4.Identify timing of sources and uses of Identify timing of sources and uses of
cashcash
5.5.Project your cash surplus or shortage Project your cash surplus or shortage
and plan accordinglyand plan accordingly

21. Cash BudgetCash Budget
Year Year 20052005 20062006 20072007
Beginning Cash BalanceBeginning Cash Balance
Receipts: Cash SalesReceipts: Cash Sales
CollectionsCollections
Total Cash AvailableTotal Cash Available
Uses: PurchasesUses: Purchases
Interest CostsInterest Costs
Administrative CostsAdministrative Costs
Total DisbursementsTotal Disbursements
Cash Available End of PeriodCash Available End of Period
Less: Minimum Cash BalanceLess: Minimum Cash Balance
Surplus (Shortage)Surplus (Shortage)
Investment (Borrowing)Investment (Borrowing)

22. Cash BudgetCash Budget
Summary:Summary:
Beginning Cash Balance + Cash Inflows = Beginning Cash Balance + Cash Inflows =
Cash Outflows – Ending Cash BalanceCash Outflows – Ending Cash Balance

23. Break Even AnalysisBreak Even Analysis
How much of your product do you have to How much of your product do you have to
sell to cover all of your fixed and variable sell to cover all of your fixed and variable
costs?costs?
Fixed Costs = costs that occur regardless Fixed Costs = costs that occur regardless
of sales volume (rent, interest, insurance)of sales volume (rent, interest, insurance)
Variable Costs = costs that vary directly Variable Costs = costs that vary directly
with sales (hourly wages, cost of each with sales (hourly wages, cost of each
product)product)

24. Break Even AnalysisBreak Even Analysis
Steps:Steps:
1.1.Find Total Fixed CostsFind Total Fixed Costs
2.2.Find Variable Costs Per UnitFind Variable Costs Per Unit
3.3.Find Contribution Margin (Selling Price Find Contribution Margin (Selling Price
Per Unit less Variable Costs Per Unit) Per Unit less Variable Costs Per Unit)
4.4.Break Even = Fixed Costs/Contribution Break Even = Fixed Costs/Contribution
MarginMargin

25. Break Even AnalysisBreak Even Analysis
Break-even analysis provides information Break-even analysis provides information
to:to:
–Price your product competitivelyPrice your product competitively
–Earn a fair profit for your businessEarn a fair profit for your business

26. Break Even ApplicationsBreak Even Applications
1.1.New product decisions – determine sales New product decisions – determine sales
volume needed to break even.volume needed to break even.
2.2.Pricing decisions – used to study the effect of Pricing decisions – used to study the effect of
changing prices and volume levels on total changing prices and volume levels on total
profitsprofits
3.3.Modernization or automation decisions – profit Modernization or automation decisions – profit
implications can occur from modernization or implications can occur from modernization or
automation program, which can change the automation program, which can change the
relationship between fixed and variable costs relationship between fixed and variable costs
4.4.Expansion decisions – may help study the Expansion decisions – may help study the
aggregate effect of a general expansion in aggregate effect of a general expansion in
production and sales.production and sales.

27. Break Even - Example Break Even - Example
Fixed Costs $150,000Fixed Costs $150,000
Variable Costs are $100 per unitVariable Costs are $100 per unit
Sales Price is $250 per unitSales Price is $250 per unit
Solve:Solve:
–Contribution Margin Contribution Margin
$250 – $100 = $150$250 – $100 = $150
–Break Even PointBreak Even Point
$150,000 / $150 = 1,000 units$150,000 / $150 = 1,000 units

28. Break Even: Example Break Even: Example
Profit = If your sales are over 1,000 unitsProfit = If your sales are over 1,000 units
Loss = If your sales are less than 1,000 Loss = If your sales are less than 1,000
unitsunits
Break Even = If your sales equal 1,000 Break Even = If your sales equal 1,000
unitsunits

29. Movie Theater ExampleMovie Theater Example
Fixed Costs are $24,000,000 per yearFixed Costs are $24,000,000 per year
Variable Costs are $500 per customerVariable Costs are $500 per customer
Revenues are $800 per customer (ticket Revenues are $800 per customer (ticket
and snack purchases)and snack purchases)
What is your contribution margin?What is your contribution margin?
What is your break even number?What is your break even number?

30. Movie Theater ExampleMovie Theater Example
Contribution MarginContribution Margin
–Sales Per Customer – VC Per Customer Sales Per Customer – VC Per Customer
or $800 - $500 = $300 Per Customeror $800 - $500 = $300 Per Customer
Break EvenBreak Even
–Fixed Costs / Contribution Margin or Fixed Costs / Contribution Margin or
$24,000,000 / $300 = 80,000 customers /year $24,000,000 / $300 = 80,000 customers /year
(about 1,539 customers /week)(about 1,539 customers /week)
 

31. Movie Theater ExampleMovie Theater Example
Another Problem:Another Problem:
–5 screens showing five movies per day5 screens showing five movies per day
–100 seats per theater room100 seats per theater room
–Theater is open 52 weeks per yearTheater is open 52 weeks per year
What are the total possible number of tickets What are the total possible number of tickets
that can be sold?that can be sold?

32. Movie Theater - ExampleMovie Theater - Example
5 x 5 x 100 x 52 = 130,000 possible 5 x 5 x 100 x 52 = 130,000 possible
number of ticketsnumber of tickets
Assumption: 40% of all possible tickets (or Assumption: 40% of all possible tickets (or
52,000 tickets) will be sold in Year 152,000 tickets) will be sold in Year 1

33. Movie Theater - ExampleMovie Theater - Example
Fixed Costs are $24,000,000 per yearFixed Costs are $24,000,000 per year
Variable Costs are $500 per customerVariable Costs are $500 per customer
Revenues are $800 per customer Revenues are $800 per customer
Break-Even was 80,000 customersBreak-Even was 80,000 customers
We expect 52,000 customersWe expect 52,000 customers
So,…………………….So,…………………….

34. Movie Theater - ExampleMovie Theater - Example
We’ll We’ll loselose money in year one! money in year one!
So, look at our assumption again and So, look at our assumption again and
make adjustments, or think about make adjustments, or think about
improving your business planimproving your business plan
What could we do to adjust our What could we do to adjust our
assumptions?assumptions?
What could we do to improve our business What could we do to improve our business
plans?plans?

35. Net Present Value (NPV)Net Present Value (NPV)
Indicates the expected impact of an independent project Indicates the expected impact of an independent project
on the value of the firm. on the value of the firm.
NPV = the present value of the project's cash inflows NPV = the present value of the project's cash inflows
minus the present value of the project's cash outflows.minus the present value of the project's cash outflows.
Positive NPV = expected increase to firm’s valuePositive NPV = expected increase to firm’s value
Negative NPV = expected decrease to firm’s valueNegative NPV = expected decrease to firm’s value
When evaluating potential projects, the project with the When evaluating potential projects, the project with the
largest (positive) NPV should be selected.largest (positive) NPV should be selected.

36. Net Present Value (NPV)Net Present Value (NPV)
NPV= -I +∑n CFi / (1+r)NPV= -I +∑n CFi / (1+r)
ii
where: where:
II = = initial investmentinitial investment, ,
CFiCFi = = cash flow in year icash flow in year i
rr = = discount ratediscount rate
nn = = time horizon of the projecttime horizon of the project

37. Net Present Value - ExampleNet Present Value - Example
Cost of Project = $200,000 Cost of Project = $200,000
Cash flows are Cash flows are ($75,000) in year 1($75,000) in year 1- outflow- outflow
($10,000) in year 2 - outflow($10,000) in year 2 - outflow
$60,000 in year 3 - inflow$60,000 in year 3 - inflow
$200,000 in year 4 - inflow$200,000 in year 4 - inflow
The discount rate is the rate of return that could The discount rate is the rate of return that could
have been earned on the $200,000 if it is not have been earned on the $200,000 if it is not
invested in the project. We’ll use 5%.
 
invested in the project. We’ll use 5%.
 

38. Net Present Value - ExampleNet Present Value - Example
NPV=-200,000 + (-75000/(1+0.05)NPV=-200,000 + (-75000/(1+0.05)
11
) + ) +
(-10,000/(1+0.05)(-10,000/(1+0.05)
22
) + (60,000/(1+0.05)) + (60,000/(1+0.05)
33
) + ) +
(200,000/1+0.05)(200,000/1+0.05)
44
) )
NPV is ($64,128.20) = the current value NPV is ($64,128.20) = the current value
of the cash flows generated by this of the cash flows generated by this
project in the future project in the future
Therefore on a cost/value basis, the Therefore on a cost/value basis, the
project should not be initiated due to project should not be initiated due to
its projected negative returnits projected negative return

39. Return on Investment (ROI)Return on Investment (ROI)
The incremental gain from an investment The incremental gain from an investment
decision.decision.
Used to evaluate whether to make an Used to evaluate whether to make an
investment by comparing the amount and the investment by comparing the amount and the
timing of expected gains to the investment costs. timing of expected gains to the investment costs.
Apply ROI to:Apply ROI to:
–Asset purchases (factory, technology)Asset purchases (factory, technology)
–Programs (marketing, recruiting, training)Programs (marketing, recruiting, training)
–Traditional investment decisions (stocks)Traditional investment decisions (stocks)

40. Return on Investment (ROI)Return on Investment (ROI)
ROI = Gain from Investment divided by Cost of ROI = Gain from Investment divided by Cost of
InvestmentInvestment
Example, what is the ROI for a new marketing Example, what is the ROI for a new marketing
program that is expected to cost $5,000,000 over program that is expected to cost $5,000,000 over
the next five years and deliver an additional the next five years and deliver an additional
$7,000,000 in increased profits
 during the same
$7,000,000 in increased profits
 during the same
time?time?
ROI = (Gains - Investment Costs) / Investment CostsROI = (Gains - Investment Costs) / Investment Costs
= ($7,000,000 – 5,000,000) / $5,000,000 = 40% = ($7,000,000 – 5,000,000) / $5,000,000 = 40%

41. Internal Rate of Return (IRR)Internal Rate of Return (IRR)
IRR is the discount rate at which the NPV IRR is the discount rate at which the NPV
of a project equals zeroof a project equals zero
All All independentindependent projects with an IRR projects with an IRR
greater than the cost of capital should be greater than the cost of capital should be
acceptedaccepted
The project with the highest IRR should be The project with the highest IRR should be
selected (as long as the IRR is greater selected (as long as the IRR is greater
than the cost of capital)than the cost of capital)

42. Internal Rate of Return (IRR)Internal Rate of Return (IRR)
Example: Project with a 5-year lifeExample: Project with a 5-year life
YearYear Cash FlowCash Flow
00 ($1000)($1000)
11 $500$500
22 $400$400
33 $200$200
44 $200$200
55 $100$100

43. Internal Rate of Return (IRR)Internal Rate of Return (IRR)
IRR for Project: NPV=0IRR for Project: NPV=0
0= -1000 + (500/(1+i)^1) + (400/(1+i)^2) + 0= -1000 + (500/(1+i)^1) + (400/(1+i)^2) +
(200/(1+i)^3) + (200/(1+i)^4) + (100/(1+i)^5)(200/(1+i)^3) + (200/(1+i)^4) + (100/(1+i)^5)
IRR = 16.82%IRR = 16.82%
** Easier to do in Microsoft Excel **** Easier to do in Microsoft Excel **

44. Internal Rate of Return (IRR)Internal Rate of Return (IRR)
Formula in ExcelFormula in Excel
=IRR(cellrange)=IRR(cellrange)
YearYear Cash flowCash flow
00 -1000-1000
11 500500
22 400400
33 200200
44 200200
55 100100
=IRR(B2:B7)=IRR(B2:B7)
16.8155%16.8155%