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    • Building Better Financials Using Pro-Forma Financial Statements & Their Importance to Your Enterprise Drew Tulchin & Michael Whitehead-Bust Social Enterprise Alliance 5 th National Gathering March 5 th , 2004
    • Who You Are & What Brought You Here Today
      • What is your primary job title?
      • What is your familiarity & comfort with financial statements?
      • What have you used for financial modeling to date?
      • When you leave this session, you hope…
    • Who We Are
      • Drew Tulchin
      • Social Enterprise Associates: applies business tools to achieve financial & social ‘double bottom line’ results. ( www.socialenterprise.net )
      • MBA
      • Winner, 2001 Global Social Venture Competition & Microenterprise Paper Finalist, “Non-profits Accessing Capital Markets”
      • I’m the one with the goat-tee
      • Michael Whitehead-Bust
      • Foxhall Consulting Services: supporting mission-driven entrepreneurs. Services: business planning, strategic planning, development ( www.foxhallconsulting.com )
      • MBA/CFA
      • Winner, 2001 ICIC/National Business School Network. National competition for strategy consulting to inner city businesses
      • I’m the one with the goat-tee
    • Session Overview
      • Introductions
      • Value, Importance & Theoretical Framework
      • Key Pro-Forma Components
      • Building a Pro-Forma Model
        • Identifying key assumptions & drivers
        • Expense & revenue estimates
        • One year income statement by month
        • Breakeven calculations
        • Five-year income, balance & cash flow statements
      • Handling Mission-Related Expenses & Overhead
    • Session Goals… (& Limitations)
      • Goals
      • Increase comfort with financial statements
      • Impart skills / gain confidence to use pro-forma analysis as a central component of decision-making
      • Explore pro-forma basics
      • Emphasize importance of good research and realistic assumptions
      • Limitations
      • We are not accountants
      • (nor do we wish to be)
      • Financial analysis is a tool, and but one tool, for management decision-making
      • Time allotted for this session limits what we can share
      • Our sense of humor (sorry, no refunds)
    • The Value of Pro-Formas (Or, What’s Wrong with Just Using a Budget?)
      • Management – understand the past & the present
      • Better understand cost/benefits of mission-driven components
      • Ratio analysis & benchmarking
      • Ability to perform (and interpret) sensitivity analysis
      • Strategy & Planning – prepare for the future
      • Forward thinking (Year 1 by month and Years 2-5 by year)
      • Facilitates more rational decision-making by clarifying business opportunity
      • Forced articulation of assumptions and clarification of research/data
      • $$$ – allocate resources, explain situations & raise capital
      • Balance sheet and cash flow statement can highlight risks
      • Used in evaluation to access new sources of capital (especially lenders, socially responsible investors, venture philanthropists, etc.)
    • Tips at the Start
      • Use Appropriate Resources
      • Repeat, “I will not do my pro-formas in MSWord, Excel is my friend”
      • Invest in high-quality market research & choose meaningful benchmarks
      • Pay for a good accountant/finance person
        • May not be the person currently handling your books
        • Better a passionate business-minded person who understands your mission, than the reverse
      • An Art / Language, Not a Science
      • Finance people are still subjective
      • Make your work accessible & understandable to others
      • Be clear about assumptions; acknowledge what you don’t know
      • Prepare, But Also Be Flexible
      • Things will change (little-known Harvard Study)
      • Allow for more time, budget for higher expenses & assume less revenue
      • Get comfortable with red ink (non-profits aren’t use to losses)
    • Pro-Forma Process Framework 1) Where are you now? 3) What are the incremental steps to advance? 2) What is the goal? Stable, successful job training program with access to new $$$
      • Spin-off business applying job training & earns income
      • Benefit from brand recog. in community
      • Capitalize upon existing org skills in food industry
      • Get board buy-in
      • Conduct feasibility study
      • Etc.
    • Philosophy / Key Concepts
      • Incrementation: think in units
        • Children’s building blocks
      • Establish a compelling story
        • But, be realistic, transparent & state your logic
      • Know your goals
        • Separate financial from mission-driven
        • Understand limitations / pressures on each
      • Earned income = Net Income
        • Producing profits or just generating revenue?
      • Build, measure, build, measure, build
        • (The carpenter’s ‘measure twice, cut once’ - measure continuously, because what you are cutting keeps changing)
    • Pro-Forma Components
      • Key assumptions w/ market data
      • Income Statement:
        • Yr 1 monthly, Yrs 2-5 annually
      • Balance Sheet: Yrs 1-5 annually
      • Cash Flow Statement:
        • Yr 1 monthly, Yrs 2-5 annually
      • Breakeven Analysis
    • Definitions / Key Terms
      • Variable/Fixed Costs
        • Variable costs differ based on activity level. Typically driven by number of customers
        • Fixed costs remain constant, regardless of sales volume
      • Contribution Margin
        • Revenues – variable expenses = contribution margin
      • Operating Leverage
        • Ratio: fixed to variable expenses
      • Assumptions / Drivers
      • Sensitivity Analysis
        • Evaluation of changes in business results based on alterations to key assumptions
    • Begin the Model w/ Assumptions
      • Establish the background story
      • Select a reasonable goal
      • Gather data
      • Determine key indicators
      • Establish driving unit(s) of measurement  
      Note : the more specific you are with real information for outputs and outcomes, the easier it is to build towards them… (while being prepared they WILL change)
    • Assumptions – Expenses
      • Audience Participation Activity (polite applause):
      • List major expenses
      • Classify: fixed or variable?
      • Identify unit(s) of measurement
      • Select drivers (what indicates the amounts?)
      • Consider growth rates / change over time
    • Assumptions – Revenues
      • Follow same steps from expenses
      • List revenues, separate by product
      • Establish the base unit for ‘incrementation’
      • Determine a defendable growth rate
      • Philanthropic sources excluded at this time to focus on project revenue, but note potential exceptions:
        • if project produces incremental philanthropic stream (i.e. grants specifically tailored for the project)
        • if project requires grants for social benefits that are incremental, but inherent, project costs
      • Determine monthly sales growth rate
      • Separate, describe behavior and timing of fixed / variable expenses
      • Include mission-related expenses, revenues, and org overheads
      • UBIT
      • Quick view of year one profitability / losses
      • Likely not the best evaluation of the opportunity
      • Insight into capital needs
      • Insight into level of risk
      Monthly Income Statement Steps Outcomes
      • Revisit original growth assumptions. Carry them forward, with applicable changes, for years 2-5
      • REMEMBER:
      • Additional staffing, equipment, space, other needs
      • Overhead allocations
      • Even conservative projections are often optimistic – base assumptions on sound data
      • Rationality wanes after Year 3 (sometimes before). Don’t ‘bet the farm’ on Year 5 projections
      2-5 Year Income Statements
    • 5 Year Balance Sheets
      • Articulate assumptions:
        • A/P
        • A/R
        • Inventory
        • Capital Expenses & Depreciation
        • Financing / Capital Structure: Debt? PRI? Philanthropy? Parent Org investment?
      Note : Ensure consistency with I/S assumptions
    • Cash Flow Statements
      • Monthly (Year 1), yearly Years 2-5
      • Note model structure
      • Work with good financial professionals
      • Be prepared for red, but have a plan (in advance)
      • Can have positive net income, but be cash flow negative
    • Breakeven Analysis
      • The Formula:
      • Fixed Costs / (revenue per unit –
      • variable costs per unit) = BEP in units
        • Is it attainable?
          • Does market research back it up?
          • What is capacity?
        • Account for start-up costs/overhead allocations
      Advanced Note : Do you know your degree of operating leverage?
    • Handling Mission-Driven Costs
      • Distinguish whenever possible
        • Promotes management of “business” side and “program” side
        • Increases appeal to funders
        • Facilitates social return & SROI analysis
      • Initial goal statements make it easier to attend to mission in terms of added expense - hard questions WILL come up
    • How to Handle Overhead Allocations?
      • Handle in strategic & thoughtful manner
      • Depends on entity’s legal status
      • ‘ Gray area’ treatment as fixed or variable
      • Have an easily explained story
      • Have information be transparent in assumptions
    • Final Thoughts
      • Do your research
      • Clarify goals (& costs) of mission-related activity
      • Rigorously research & analyze
      • This is a living document
      • Listen to what it tells you, but utilize all tools / data
      • Have fun
    • Resources
      • Robert Higgins. Analysis for Finance Management
      • Jeffry Timmons. (Note spelling). New Venture Creation: Entrepreneurship for the 21st Century
      • The Motley Fool
      • What others do you recommend?
    • Questions & Answers Michael Whitehead-Bust: [email_address] www.foxhallconsulting.com (coming soon) Drew Tulchin: [email_address] www.socialenterprise.net