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  • The Enterprise Foundation FINANCIAL PLANNING AND BUDGETING FOR NONPROFIT ORGANIZATIONS Copyright 1995, The Enterprise Foundation, Inc. All rights reserved. Permission is granted ONLY to non-profit, community-based organizations to reproduce and/or adapt this document for their own use. INTRODUCTION TO FINANCIAL PLANNING A financial plan is a dollars and cents picture of your proposed operation painted in terms of money in, money out and the projected flow of funds over time. A financial planning is normally one of several components in a business plan for a new or continuing activity, and cannot easily be done apart from the preparation of a business plan. For example, a new nonprofit group plans to acquire and rehab houses. The founders want to estimate needs for operating funds and investment capital. But this cannot be done without studying the market for the homes, deciding on a marketing strategy, estimating volumes of sales and pricing, and making a plan for staffing and contracted services. All of these factors are elements of a business plan. Financial projections are the essence of financial plans. They are budgets that predict future revenues and expenses, but in forms that may not be familiar to most managers of nonprofit organizations. Financial projections include: o Projected operating budget for one or more years. o Projected start-up budget(s), if applicable. o Projected capital budget(s) for equipment, construction, development projects or for loan funds (for development projects these are often called "pro-formas"). o Cash flow projections. Financial projections are estimates, no more than educated guesses. They are most reliable if they are based on past experience of your organization or another organization. 1
  • Looking at the financial statements of a similar, up-and-running venture is invaluable. But, in planning a new venture, this experience sometimes isn't available. Tools like the expense guidelines in the preceding chapter become very valuable. Verification of estimates are essential. Examples of income or expense areas where bad guesses could get you in trouble include: o Estimating salaries and expenses unrealistically low. o Understanding the amount of staff needed. o Being over confident about grant funding. USES OF A FINANCIAL PLAN A financial plan serves as an internal money management guide. The plan helps to answer: o How much money do we really need to get started? o How much to keep us going? o How long it will take before the enterprise is self-supporting or as self-supporting as possible? o What are the effects of different scenarios on our surpluses or deficits of cash-on- hand? - Should we borrow money? - Should we buy equipment or lease it? - Can we afford this much staff? - What happens if we offer these benefits? - What happens if we delay buying that property? - What if we increase our sales or rentals? o What are the financial factors most sensitive to success or failure of the business? Overhead? Sales? Loans made? Apartment rent received? Running various scenarios of financial plans to discover these factors (typically using spreadsheet software) is called "sensitivity analysis." o What are the financial consequences of a worst-case scenario? o Is this venture a wise use of investment funds and effort? 2
  • For new organizations, financial projections are the basis for establishing the accounting systems. Income and expense items in financial projections are good guides to establishing a chart of accounts. A financial plan also serves as an external sales tool. The plans show investors - public agencies, lenders, foundations - how their funds will be used and the hoped-for results. The quality and detail displayed in your financial analysis shows potential investors that you have a well thought out plan, understand the financial requirements of your venture and are more likely to manage funds well. LEARNING THE LINGO Financial planning is challenging for non-financial personnel or board members of most nonprofit organizations. Even seasoned managers may need to learn or brush up on the basic terminology. Further complications: o There is no standard format or terminology for nonprofit financial planning. o Two different planners may use different words but mean the same thing. o Much of the conventional lingo is oriented towards for-profit ventures. For definitions of terms, see the glossary at the end of this document. BASIC ELEMENTS OF A FINANCIAL PLAN 1. Narrative(s) - referencing specific items in the financial projections and explaining: o An overview and highlights of the financial projections. o What new funding is needed and on what terms. 2. Projected operating budget which: o Predicts future expenses by category and dollar amount. o Predicts income that will be used to pay these expenses by category and amount. 3. Projected start-up budget which: 3
  • o Predicts start-up disbursements -- both operating expenses and capital investments. o Is often a schedule (appendix) to the first year's operating budget. o Includes or attaches as another schedule the capital equipment list. 4. Projected capital budget(s) which: o Predicts capital investments as in the development of real estate, or equipment purchase, by category and amount. o Predicts sources of funds used to pay these costs, by source, amount and terms of repayment, if any. o May be multiple budgets if one or more "capital" projects of different types are being undertaken during the forecasting period. 5. Cash flow projections which: o Look at all cash flowing into and out of an organization or department during the forecasting period. o Mix "operating" and "capital" receipts and disbursements. o Serve as the key financial projections in a business plan, since they summarize all financial transactions and their impact on cash flow. 6. Assumptions, which are: o A detailed description of the basis for determining the dollar value or timing of items in any of the financial projections described above. WHERE TO GET EXPERT HELP ON A FINANCIAL PLAN Business planning firms or consultants are available in most communities. Larger communities may have business planners who specializing in working with nonprofit groups. They can help you: o Put together reliable budget assumptions for basic overhead. o Develop financial projections on spreadsheets. 4
  • o Present the general operations aspects of your financial plan to funders. o Consider the wisdom of various financial strategies. o Help structure the board, management and staffing. o Make a personnel policy manual that will keep you from offering vague or open- ended personnel benefits that might lead to uncontrolled expenses or lawsuits. o Provide on-going board and staff training in organizational matters. Real estate development consultants can help you: o Determine the feasibility of real estate projects. o Put together reliable budget assumptions for acquisition, construction, fees and (in rental projects) on-going operating costs. o Present these aspects of your financial plan to funders. o Sometimes act as a project manager on contract. A competent accountant or financial services firm can help you: o Set up your books and chart of accounts. o Find the best computer software to meet your needs. o Keep you out of trouble with the IRS. o Produce and help you interpret basic financial reports. o Keep records and produce financial reports in accordance with HUD requirements. A payroll service firm can help you: o Set up your payroll system easier and cheaper than most accountants. An insurance consultant can help you: o Save a lot of runaround time deciding what insurance is needed and pricing it. 5
  • o Negotiate for the best rates - the consultant cost is usually minimal compared to the possible savings. NARRATIVE TO FINANCIAL PLAN Whether a financial plan is part of a business plan or a stand-alone document, a narrative should accompany budgets and cash flow projections. This is a critical component is the plan is being used to raise money. The narrative typically includes: o A brief overview of the projected financial picture of the business. o The exact financial contribution being requested of a funder (if directed to a funder) including suggested repayment terms, conditions and/or pay-in schedule. o The need for that financial contribution. o The benefits of that financial contribution. A very thorough narrative, such as would be included in a detailed business plan, will also include these elements: o A "sensitivity analysis" of the program or financial factors most critical to success, and a discussion of what happens if turn out to be different than predicted. Examples: - Volumes of output as they relate to income and expenses, such as number of apartments rented, homes sold, etc.; - Labor costs; and - Interest rates. o Discussion of any other items that may raise questions from readers. CREATING AN OPERATING BUDGET The basic arithmetic of an operating budget is this: Projected income to pay for operating expenses minus Projected operating expenses (overhead) 6
  • ----------------------------------------------------- equals Projected operating surplus or deficit Operating income includes: o Revenues from sales, rents or fees charged o (Less) returns or refunds o Grants earmarked for operations, as opposed to capital projects like a real estate development o Not loans received - these should be in a capital budget or a cash flow projection Operating expenses include: o Cash operating expenses, often called "overhead." These are expenses related to normal operations, and not an investment (like loans made to homeowners) or a development activity (like buying and rehabbing apartments). o Depreciation expenses. These are non-cash or "paper" expenses that relate to the decline in value of property you may propose to buy. o Interest paid on loans, such as a working capital loan or a mortgage loan for purchasing your office or other real estate o Not loan principal payments. These are considered capital expenses (an investment) not related to operating costs. OPERATING BUDGET PROJECTED OVER CALENDAR PERIODS It is often useful to project an operating budget over a number of months or calendar quarters, to determine surplus (deficit) in those periods. This is necessary if costs or revenue will vary considerably from period to period - as in a business start-up where staff is being added over a period of months, or the lemonade business is picking up. A SAMPLE OPERATING BUDGET Following is an example of a projected annual operating budget for a mythical organization which we will call REHAB, INC. 7
  • REHAB, INC. PROJECTED OPERATING BUDGET Projected for Period 6/30/92 to 5/31/93 PROJECTED INCOME: Grants to be Received $50,000 Interest Income 150 Total Income $50,150 PROJECTED EXPENSES: Executive Director $30,000 Rehab Specialist 18,000 Admin. Assistant 60% 9,600 Fringe (25%) 14,400 Office Utilities 1,200 Telephone 1,200 Supplies and Postage 600 Equipment Maintenance 480 Liability Insurance 2,400 Mileage 600 Legal and Accounting 3,600 Depreciation 3,700 Start-Up Expenses 44,050 Total Expenses $126,130 SURPLUS (DEFICIT) $(75,980) CREATING A START-UP BUDGET "Start-up budget" is not a term of art among bookkeepers and accountants. As used in this guide to financial planning, the term refers to a projection of one-time expenses related to starting a program or an entire organization. Accountants are loath to mix ordinary operating expenses and capital investments (as in depreciable equipment) in one budget--it runs counter to all of their training. 8
  • Tax laws and regulations also require that the two categories of expenditures be kept separate, since ordinary expenses can be written off immediately by for-profit businesses, while depreciation on capital investments can only be written off over a period of y ears. However, nonprofits care little about the distinction, since they have no income to shelter from taxes. Government funders and foundations, when asked for funding, like to see the distinction between one-time start-up costs and on-going costs. Therefore, the term "start-up budget" has been chosen for purposes of this guide. The basic arithmetic of a start-up budget is this: Projected sources to pay for start-up expenses minus Projected start-up expenses related to "operations" minus Projected "Capital" start-up investments usually related to business equipment --------------------------------------------------------- equals Start-up surplus or deficit, usually "0" In a projected start-up budget, one normally includes: o Capital items from the equipment list which will be purchased for the new venture - such as furniture, office equipment, etc. These will be depreciated. o Other capital items such as a office building to be purchased. o Rent, phone and utility deposits, which are considered capital assets. o Reserves, such as reserves for working capital, future purchase of equipment or future unexpected deficits. o Sources of paying for start-up costs, such as grants or loans. It is suggested that a start-up budget not include capital expenditures on programs, such as the cost of purchasing land and buildings to rehabilitation. If the program continues, these will be repetitive investments that should be projected in a "capital budget," described below. Items that are depreciated are generally tangible things that wear out, but have a useful life of more than a year or two. For-profits ventures, unlike nonprofits are very concerned 9
  • with depreciation because these are "paper expenses" that can be deducted from income, thus lowering taxes. However, even nonprofit ventures should be aware of how quickly their property will wear out and lose value. Very conscientious businesses put their depreciation "expenses" into a reserve for replacement. There are many ways of presenting a projected start-up budget: o As a stand-alone budget with its own sources and uses of funds - in this case it is usually shown as a break-even budget ("0" surplus or deficit). o "Ordinary" expenses may be separated and put in a schedule relating to the first year's operating budget, to be paid for with operating income. In this case, "capital" investments such as equipment for the venture are also put in a stand- alone budget with its own sources of funds. (See next section of course book). o "Capital" investments related to specific development projects, such as a real estate deal, should be put in stand-alone budgets for those projects - since they can be financed with the grant or loan for those projects. (See following section on capital budgets.) Following is an example of a Start-up budget: REHAB, INC. PROJECTED START-UP BUDGET Projected as of 6/30/92 PROJECTED SOURCES: Grant Proposed $44,050 _______ Total Sources $44,050 PROJECTED USES: Office Equipment $ 9,700 Checkbook Accounting System 250 Supplies, Printing 500 Advertising 100 10
  • Legal 1,000 Accounting Set-Up, Training 1,500 Working Capital Reserve 30,000 Contingency 1,000 _______ Total Expenses $44,050 PROJECTED SURPLUS (DEFICIT) $0 You will note that the total start-up costs of $44,000 appeared as a line-item in the first- year operating budget example. CREATING CAPITAL BUDGETS The basic arithmetic of a capital budget is normally this: Projected sources of capital minus Projected capital investments -------------------------------------------------- equals Projected surplus (deficit) A capital budget differs from an operating budget in that it does not estimate income and expenses. Rather, it forecasts sources and uses of investment capital. Accountants and taxing authorities make a strong distinction between: (1) ordinary expenses and (2) capital investments. In creating a capital budget, sources of capital may include: o Grants or loans from other entities. o Your own organization's cash, the value of real estate it owns, or the value of services provided. Capital investments (expenditures) may include: o Buying anything with long-term value, like real estate or equipment. o Things that are used up quickly - like interest payments, legal, accounting and closing costs - but that contribute to the long-term value of a capital project like 11
  • buying and rehabbing real estate. This is a convention of accountants and the IRS, and is called "capitalizing ordinary expenses." o Both depreciable property like buildings or property on your equipment list, and nondepreciable property like land (it doesn't wear out). Nonprofit organizations may need several types of capital budgets: An Equipment Budget or List shows costs of capital equipment by item or category A Projected Real Estate Development Budget, often called a Proforma, shows sources and uses of funds for real estate acquisition and/or construction. How to put together this type of budget is beyond the scope of this course, but here is a simple example: A projected capital budget for a Loan Fund or Trust Fund shows sources of funds and uses, which are normally loans to low-income homeowners or other nonprofit housing organizations. How to plan and manage a loan fund is beyond the scope of this course. But here are two basic types: o A loan fund consisting of the organization's own funds, usually created with a foundation or government grant. o Loan funds allocated, or reserved, for the organization's clients by another agency or lender, such as a local government housing program and local banks. This is an example of a capital equipment list for REHAB, INC. REHAB, INC. EQUIPMENT LIST: SCHEDULE TO START-UP BUDGET Projected as of 6/30/92 Furniture $ 600 Copier 1,500 2 Computers 3,200 Printer 1,200 Software 800 Typewriter - Used 100 Fax Machine 700 Answering Machine 100 Phone System (3 Lines) 1,500 ______ 12
  • TOTAL COST $9,700 You will note that the total equipment lost appeared as a $9,700 line item for "office equipment" in the Start-up Budget example. Following is another example of a capital budget--a development proforma for REHAB, INC., showing the funds it needs to borrow for development and how the loan funds will be applied. REHAB, INC. PROJECTED DEVELOPMENT BUDGET Projected as of 6/30/92 PROJECTED SOURCES: City "Bridge" Development Loan /1$155,000 ________ Total Sources $155,000 PROJECTED USES: Purchase up to 8 homes @ $7,000 $56,000 Closing Costs up to 8 homes @ $500 4,000 Maximum rehab cost 4 homes @ $14,000 70,000 Capitalized real estate taxes - maximum 1,080 Capitalized utility costs - maximum 1,800 Capitalized interest costs - maximum 1,600 REHAB, INC. development fees 16,000 Contingency 4,389 _______ Total Uses $155,000 Notes: 1/ Loan amount based on maximum amount of cash needed for development in 1992. Interest at 6% per annum to be paid monthly, principal to be repaid out of home sales. Loan term not to exceed 2 years. In real estate development budgets, sources of capital are defined as debt and equity, and include: o Private or government grants (equity for accounting purposes) o Your organization's own surplus cash being used for this purpose (equity) 13
  • o The market value of your organization's real estate or other property contributed to the project (equity) o The value of your organization's labor contributed to the project and not reimbursed in fees ("paper" equity - such as developer fees taken but loaned back to make the deal work) o Contributions of your organization's general partners and limited partners in a syndicated rental project, using the Low Income Housing Tax Credit (equity) o Conventional and government loans (debt) It is to the advantage of new or existing nonprofit organizations to put transfer "ordinary expenses" into "capital" budgets for development. o Example for a real estate project: project-related expenses of attorneys, accountants, loan interest, taxes and utilities in the construction period, site security, consultant fees, etc., to the extent permitted by funders or the law. o Nonprofits can legitimately charge and collect development fees and construction management fees for staff and other overhead related to development projects. These "real" fees are not "paper equity" like fees loaned back to a deal. They are usually limited by funders' and industry standards. The fees are paid out of loans or grants to the project. o One simple reason to incorporate these expenses in a development budget: it is usually easier for nonprofits to raise grants or loans for "bricks and mortar" than for "overhead." o The basic reason: it is the legitimate way to allocate costs. For example, "ordinary" expenses related to a real estate project should not be part of your operating budget. They should be billed and accounted for separately. Otherwise, since they are based on a one-time event and investment rather than administration, they will distort your budget, financial reports and future financial planning. CASH FLOW PROJECTIONS All cash flow projections describe projected cash transactions over a number of months, calendar quarters or years. The basic arithmetic of a cash flow projection is normally this: "Free" cash projected to be on hand at the beginning of the period 14
  • plus Projected cash receipts of all kinds (operating and capital) during the period minus Projected funds that will go into reserve accounts during the period minus Projected cash disbursements of all kinds (operating/capital) during the period ------------------------------------------------------------- equals Projected "free" cash at the end of the period Cash receipts include: o All the cash income shown in the operating budget, when it is expected to be received. o Not accrued income. Many organizations use an accounting system that shows income "coming in" when it is due to the organization. But not in a cash flow projection. - Example: Rents are shown in a cash flow projection when they are expected to be paid, not when they are due. A cash flow projection will show a little lag for late payers. o Loans proceeds received. These are usually not included in an operating budget. Cash disbursements include: o All the cash expenses of the operating budget (salaries, fringe, office overhead, etc.) when they are actually to be paid. o Not accrued expenses. Many organizations use an accrual accounting system that shows costs "expensed" when they are incurred. But not in a cash flow projection. Example: An contractor's $10,000 bill for rehab is shown in a cash flow projection when it is paid, not when it is due. You may anticipate, for instance, paying all such bills two weeks later. o Loan principal payments, when the payments are made, which are not included in an operating budget. o For purposes of a cash flow projection, funds earmarked for a reserve account are the same as "spent" cash. 15
  • Cash flow projections describe the sources, destinations and timing of cash in your organization in a way that no other financial projection tool can do. Why do you need this overall picture of cash flows? o You may start a profitable business and go broke because you don't have enough working capital. o Though you complete five remodeling jobs in your first month of operation, you may not get paid for them for several weeks or longer. o Though you buy materials throughout the month, you may not have to pay for them until the 10th of the following month. A good cash flow projection tells you when the money needs to be there. Cash flow projections are the means to determine how much cash you will need to get your bold, new venture started and keep it operating. They help you to understand: o How all projected cash transactions in your operation fit together. As we have discussed, capital costs are normally not included in an operating budget. o How much cash you will need each month to keep your business going. o The points in your calendar when money will be coming in and flowing out. o How many months or years you will operate before achieving positive cash flow. Cash flows for housing organizations are usually calculated for one to three years. Often this is by month for the first year, and quarterly for year two and year three. This allows for a detailed picture of the start-up period. But a caveat: For rental housing projects, sometimes cash flow projections are calculated for five, 10 or 20 years! This is so lenders and other investors can see how their investments will be paid back. This applies to the project only, not the general operating budget of the organization. Following is an example of a cash flow projection for REHAB, INC. REHAB, INC. CASH FLOW PROJECTION For Period: 7/1/92-6/30/93 16
  • CALENDAR PERIOD M1 M2 M3 M4 HOMES PURCHASED 3 0 1 1 REHABS IN PROGRESS 3 4 REHABS COMPLETED PURCHASE CONTRACTS HOMES SOLD TOTAL HOMES IN INVENTORY 3 3 4 5 PURCHASE LOAN BALANCE 22,500 22,500 30,000 37,500 REHAB LOAN BALANCE 0 0 0 15,000 REVENUES (CASH IN) Grants Received 25,000 0 0 0 Down payments received 0 0 0 0 Proceeds of home sales 0 0 0 0 Purchase loan draws 22,500 0 7,500 7,500 Rehab loan draws 0 0 0 15,000 Interest income: cash 50 50 0 0 TOTAL CASH IN 47,575 50 7,500 22,500 DISBURSEMENTS (CASH OUT) DEVELOPMENT CASH OUT Home purchases 21,000 0 7,000 7,000 Closing costs: purchases 1,500 0 500 500 Purchase loan repayments 0 0 0 0 Rehab loan repayments 0 0 0 0 Purchase loan interest 0 113 113 150 Rehab loan interest 0 0 0 0 Contractor/supplier pmts 0 0 10,500 24,500 Real estate taxes 90 90 120 150 Utilities 150 150 200 250 Closing costs: sales 0 0 0 0 ST Develop. Cash Out 22,740 353 18,433 32,550 ADMINISTRATIVE CASH OUT Executive director 2,500 2,500 2,500 2,500 Rehab Specialist 0 0 1,800 1,800 Admin. Assistant (1/2) 800 800 800 800 ST Salaries 3,300 3,300 5,100 5,100 Fringe @ 25% 825 825 1,275 1,275 Reserve: verifying figure 0 0 0 0 Utilities 100 100 100 100 17
  • Phone 100 100 100 100 Supplies and postage 50 50 50 50 Equipment maintenance 40 40 40 40 Liability insurance 200 200 200 200 Mileage 50 50 50 50 Legal and Accounting 300 300 300 300 ST Admin. Cash Out 4,965 4,965 7,215 7,215 TOTAL DISBURSEMENTS 27,705 5,318 25,648 39,765 NET CASH FLOW 19,870 (5,268) (18,148) (17,265) CUMULATIVE CASH (DEFICIT) 19,870 14,603 (3,545) (20,810) 18
  • The terminology gets very complex in dealing with cash flow projections. Even financial wizards can confuse each other when talking about cash flows. Keep this in mind: o Remember, "free cash" means cash that is not restricted in some reserve account and can be spent. o In a cash flow projection, free cash can be a negative number. A negative number means your planning scenario isn't working. o The amount of cash at the end of one period is always exactly the same as cash at the beginning of the next period. This is sometimes called cumulative surplus or deficit or cumulative cash. o Remember, reserve accounts may just be bookkeeping accounts, not bank accounts (although a reserve account may have its own special bank account). These accounts are where cash is reserved for future contingencies, such as replacing equipment or covering rent losses. These are subtracted just like expenses to determine "free cash." And remember these points about negative cash flow. o In real life (not just on paper), cash flow will be negative in any accounting period in which you pay out more than you take in. Negative cash flow may be benign--that is, you expected and prepared for it for a few months. Or it may be unplanned and symptomatic of trouble--as when you are borrowing from accounts in a separate part of your operation or borrowing from some other source. o In a responsible venture, negative cash flows are anticipated as much as humanly possible and erased with cash surpluses from previous periods or with working capital borrowed or put into reserves for this contingency. o Working capital can come from the organization's free cash (if any), a grant from a foundation, a loan or fund raising. You should find or have committed enough financing to keep a positive cash balance as well as funds in reserve for worst-case contingencies. One month's expenses are considered a minimum liquidity requirement. o It is essential to anticipate negative cash flows. While some businesses can run for a long time without making a profit (or appearing to make a profit) lack of cash can kill your enterprise. DIFFERENCES BETWEEN OPERATING BUDGETS 19
  • AND CASH FLOW PROJECTIONS Cash flow projections and operating budgets are distinctly different. You could easily show a surplus from operations and not have enough cash to function, if you have an accrual accounting system. Example: You sell 10 rehab jobs for $10,000 each in March but don't get the first partial payment until April. If you prepared your operating budget on a accrual basis, you would show the income when it was expected to be received. This will give a false picture of how much cash will be available. - Example: You may make large payments to loan principal which used up your cash. Since this is not considered to be an operating expense, your need for this cash will not even show up in a typical operating budget. Professionals in the nonprofit sector are much more familiar with operating budgets than they are with cash flow projects, so the following comparison may help to understand the difference. COMPARISON OF OPERATING BUDGETS AND CASH FLOW PROJECTIONS Operating Budgets (accrual basis) Cash Flow Projections Individual expenses are projected for Items projected only when actual cash the time period when obligation to pay payment is expected will be incurred (when bills are received as opposed to when they are paid) Used to show a picture of the core Shows the entire projected cash flow of the operations. operation including capital receipts and expenditures Includes projected loan interest Includes interest and principal of loan payments only - not payments to payments when they are expected to be paid. principal. Usually includes deprecation - Does not include depreciation. a "paper" expense. 20
  • Blurs the amount of cash projected Clearly shows projected cash available and your to be on hand because it shows liquidity position (ability to meet your trade, obligations to pay which may occur payroll and other accounts payable) at some future time. Many start-up costs are treated as Start up expenses are entered as a one- time entry capital investments and only the interest cost is usually shown. These are other issues to consider when forecasting cash flows: o You may want to estimate cash flows according to alternative scenarios: good, horrible, and conservative (expected). o Watch out for seasonal and one time adjustments - Start up costs can be large expenses during the first months of operation. They are usually entered as a one time expense on the income statement. If your venture is busier in winter than summer, both expenses and income are likely to go up. Utility expenses can fluctuate widely - Account carefully for seasonal variations. - If your business offers any credit, term payments, or staggered payments, be sure to adjust cash receipts to account for the time when the cash will be on hand. o Not everyone pays promptly or at all - Many nonprofits rely on public grants and foundations for support. These agencies have their own schedules for paying, usually on a not-so-prompt reimbursement basis. - Customers may not pay on time and some may not pay at all. Cash flows must account for such things as non payment, vacancies, and other losses of expected income. 21
  • GLOSSARY OF FINANCIAL PLANNING AND BUDGETING TERMS Accounts - These are classifications of transactions into one category. Accounts can be for income or expenses, such as rent received, salaries paid or equipment purchased. Accruals - Income or expenses that are forecast or accounted for as financial transactions at the time (or estimated time) of the obligation to pay, whether or not that is the actual time the payment is made. Accrual accounting systems use this technique. As a result, they usually account for income and expenses before they are received or paid. Assumptions - These are very specific data that represent major decisions or judgments about what things will cost or produce in revenue. Example: forecasting office rent at $8 a square foot is an assumption until a lease is signed. Balance Sheets - A snapshot in time of an organization's wealth and debts, produced monthly, quarterly or annually. These reports subtract liabilities from assets to show net worth. Breakeven Analysis - A technique of forecasting income and expenses to show when they are equal to each other. Budgets - Various types of financial projections are informally called budgets. More correctly, in financial planning, they are called "projected budgets." When one says, "program budget" or "project budget," this implies that the organization has formally accepted the projection and is prepared to live with it. Actual receipts and disbursements of funds are tracked against these formal budgets. Capital Budgets - These take many forms, such as lists of equipment to be purchased, sources and uses of funds for a construction project or sources and uses of funds for a loan fund. Capital Items - Financial transactions involving things of long-term value, like loan principal received, loan principal paid or owed, equipment, land, buildings or construction work. In financial reports, they are divided into assets and liabilities. However, as a practical matter, assets that cost less than $200 or even $500 are often not considered assets, to avoid long-term recordkeeping. Purchasing a capital item is an investment, not an expense. Chart of Accounts - This is an organization's list of all the accounts it will keep track of and report on. Line items in financial projections are often very similar to a chart of accounts. Cash Flow Projections - Financial projections that mix capital and expense items, and take out "paper" transactions like accruals and depreciation to show all the cash moving in 22
  • and out of an organization. Cash flows, as they are sometimes called, forecast a number of months, calendar quarters or years. They forecast the amount of free cash that will be on hand at the beginning or end of these periods. Surpluses are called positive cash flow. Deficits are called negative cash flow. Depreciation - In forecasting and accounting, expense items based not on a cash expense, but a judgment about the amount of value that a capital item is losing during a defined time period. Example: "the building depreciated by $2000 in 1991." Equipment Lists - Schedules of capital equipment already owned or needed and its cost. Expense Items - Financial transactions involving things of short-term value, like telephone expenses, loan interest paid, rent paid or supplies. These are sometimes called "ordinary expenses." Overhead is a common term for these types of expenses. Financial Reports/Financial Statements - These are reports on historical financial transactions. Examples include budget reports and balance sheets. The numbers are "real." Financial Projections - These are distinguished from financial reports or statements prepared by any ongoing business. Projections look forward and forecast future income and expenses. The numbers are estimates. Financial Transactions - These are single instances of money going in or out of an organization, or from one account to another. Bookkeeping keeps track of financial transactions. Financial projections anticipate and estimate them. Free Cash - This is not something found in a bag on a sidewalk. It is an organization's cash balance at a certain point in time, not including funds that are in reserves. Income Statements/Budget Report/Profit and Loss Statements/P&Ls - A report on "real" operating expenses and the income used to pay for them. These statements are often prepared monthly, quarterly and annually and usually compare income and expenses against an operating budget. For-profit businesses call them profit and loss statements or P&Ls. Liquid Assets - An organization's free cash, or investments that can be converted to cash quickly. Operating Budgets/Expense Budgets - These typically forecast non-capital expenses and the types of income that will be used to pay for them. The exception to this rule is that many operating budgets forecast small equipment purchases, which are capital items. 23
  • "Paper" Transactions - An informal term for many kinds of non-cash transactions where no funds really change hands. In financial forecasting, the "paper" transactions that get the greatest attention are accruals and depreciation, since they can distort some forecasts. Performance Ratios - Analytical tools used to measure the financial health of an actual or proposed venture. An example: debt to equity ratios, where the money an organization has borrowed or proposes to borrow is compared against the amount of non-borrowed assets in the venture. Project Proformas - A common term for capital budgets for real estate development projects, showing sources and uses of funds. Many proformas show sources being applied and uses of funds over a number of months, calendar quarters or years. Reserve Accounts - Accounts where money is transferred to save for future capital or ordinary expenses. Examples: a reserve for investing in future building repairs, or a reserve for potential operating losses. Funds put in a reserve accounts, or reserves, are considered spent until they are needed for their dedicated purposes. Reserve accounts are assets. Schedules - Subsidiary lists of income or expense items that explain how one number in a financial projection is derived. Examples: An operating budget might have line-items for "fringe" and "start-up costs." Rather than make the operating budget too detailed, these costs are detailed in a schedule. Spreadsheets - A common term for financial projections once produced by hand and now produced by computer software. Typically, they have a set of assumptions in one place and financial projections in another. Spreadsheets allow easy calculations of projections over many months, calendar quarters or years. Manipulating assumptions allows for many "what-if" scenarios. Start-up Budgets - A loosely defined term for forecasts of all the costs involved in starting up new ventures, as opposed to operating them on a sustained basis. These budgets may mix capital and expense items, or these items may be presented separately. Working Capital - Cash put into a venture to insure that it can pay its bills while awaiting future income. Ventures should have enough working capital to insure positive cash flow, and ideally enough extra to cover one month's disbursements in the event expenses occur earlier than expected or income comes later than expected. Cash put into a venture to cover deficits, with no expectation of future income to compensate, is not working capital, It is simply spent cash. 24