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    Entrep finance  chapter 05 to_08 _the business plan Entrep finance chapter 05 to_08 _the business plan Document Transcript

    • Handout for Entrepreneurship 101 P a g e | 95 Part 2. The Business Plan SESSION 5: THE BUSINESS PLANOverview: The previous sessions gave a bird‘s eye view of creating a business. Theyencouraged you to study the market or customer, identify unmet needs or gaps,develop a product or service to address those needs, and build your competitiveadvantage. We go into ever greater detail in the next four sessions to flesh out thebusiness plan.This session will define the business plan, explain why entrepreneurs need one, whowill read it, and how to go about writing the plan. We highlight the executive summary,the company summary, the management profile, and the risk-and-reward profile.Those sections highlight the main points of your plan. Details of the plan will follow inthe next three sessions.Sections:What is a Business Plan?How to write the Business PlanWriting style for a Business PlanCharacteristics of a good planContents of the Plan The Executive Summary Company Summary Management Profile Risk-and-reward profileTip: think of the reader
    • Handout for Entrepreneurship 101 P a g e | 96Learning ObjectivesAt the end of this session, the student should be able to: 1. Define a ―business plan" 2. List the readers of a business plan 3. List the characteristics of a good business plan 4. List the components of a business plan 5. Define the following sections: executive summary, company summary management profile, risk-and-reward profile 6. Know what readers look for in the executive summary 7. Know why he should write a business plan from the point of view of the investorSTORY FROM REAL LIFE: Belgian WafflesThomas D., 38, was tired of his predictable life. After 12 years as a managementconsultant for a computer company, the native Belgian was faced with a choice. Shouldhe continue the next 20 years in a predictable career or follow his entrepreneurialdream of sharing his favorite childhood treat: authentic Belgian waffles. Now, instead oftraveling the country in a suit and tie, he travels the streets of New York City in anapron, selling freshly made waffles out of a yellow van."I was looking for a business that would have meaning. My version of meaning isbringing a happy moment—a moment of indulgence or a smile—to peoples days. Awaffle definitely does that," Thomas says.Thomas spent a year perfecting his recipes while still employed at IBM. He eventuallytook a leave of absence when he started ―Waffles and Dinges‖ in October 2007. Heprepared a business plan. He calculated the expenses and projected the sales. Then heresigned from his computer company job to start serving waffles. Now, DeGeest ishappy that he has finally found the unpredictable life that he was looking for.(Source: Entrepreneur.com)
    • Handout for Entrepreneurship 101 P a g e | 97IntroductionThe business plan is a written document, explaining what your business is hoping toachieve.Why is a business plan important? A well-developed business plan demonstrates howserious you are about the proposed venture. It shows that you have developed theinitial brilliant idea. You did some homework. You translated your inspiring ideal into aworkable plan. Friends and contacts are more likely to support you and provide funds ifyou present a credible business plan.We agree that many successful companies began without a business plan or any othertype of financing document. If the money comes from the entrepreneur himself, fromfamily and relatives, or from close friends, a verbal explanation is enough. Theentrepreneur promises success, and he gets one good chance to deliver thosepromises. (In case of failure, he may get no more chances.) Statistic There were interviews with the founders of 100 companies on the 1989 “INC. Magazine” TOP 500 list of Fasting-growing Companies in the USA. It was revealed that:  41% had no business plan at all  26% had a rudimentary, incomplete plan.  5% just created some financial projections, out of thin air.  28% wrote a full business plan.The reality of life is that you would need to look elsewhere for additional funding. Thisis where the professional investor comes in. Professional investors are very good atreading business plans and criticizing them, asking follow-up questions, and demandingmore information.Banks, venture capitalists, and private investors will want to see your plan on paper.They want a clear picture of what your company is trying to accomplish, why it wouldbe successful, who will be your competitors, how you intend to market your product orservice, and who will manage the company.The business plan is also valuable to you, the entrepreneur. By committing your ideasto paper and fleshing out the details, you:
    • Handout for Entrepreneurship 101 P a g e | 98 a) state your premises and assumptions and subject them to scrutiny. (For example, you assume that raw materials are easy to find. In reality, they might be hard to find. A written plan will allow a friendly reader to be surprised at your assumption. Then, he can give you a warning.) b) provide the ―base scenario‖ or ―normal expectation‖ against which the actual operations and changing circumstances may be compared. c) ensure that all important elements of the business are addressed. (If any part of the business-plan outline is left blank, you will notice what is missing.) d) Assuming the outline is completely addressed, and there are no blanks: the written plan allows everyone to see, what you know, and what you do not know. What you have written down, is what you know. What you did not write about, is what you do not know. (or: You do not consider it important). A friendly reader might be surprised to see something missing. He might ask you, ―Why did you not write about this (important topic)?‖ You reply, ―I did not think that it was important.‖ He may reply, ―In this particular industry, it is very important.‖Ask Yourself1 Am I ready to explain clearly and concisely what my objectives are, in starting this business?2 Am I able to explain my objectives in a way that the potential investors can appreciate?1. What Is A Business Plan? A business plan is a detailed statement of what your business is going to do in the futureThe business plan is your means of communicating your vision to the world to helpyou attract talent and money to the business. It is a detailed statement of what yourbusiness is going to do in the future.
    • Handout for Entrepreneurship 101 P a g e | 99Entrepreneurs who need to attract outside investors need to be able to show businessplans. The potential investor will need to be able to read some sort of a business planto be introduced to the prospects of your business. These people respect the disciplinethat a good business plan demonstrates. They will also use the plan to evaluate youand your team.Your business plan provides an outline of your company‘s goals, markets, resources,competitors, and funding needs for the first five years of operation. If the investor findsthat your written proposal fails to address any of these areas, they will either ask formore details or ignore your project.2. How To Write The Business PlanFirst, decide firmly to write one. A business plan takes a lot of effort. It will take weeksto prepare. So you need to weigh the decision to write a business plan. A lot ofentrepreneurs start to write a plan, then get fed up with it, halfway through. Theyeither submit a poorly-written plan or abandon the idea altogether. Think carefully. Ifyou start to write it, write it well, to completion.A well-written business plan reveals that you are a capable professional. It is yourprimary means of convincing investors that you have the tools to make your idea areality, that you have thought of everything. Absent any personal relationship with theprospective investor, the business plan is your way of introducing your way of thinkingand your abilities. A hastily-prepared business plan indicates ―inattention to detail.‖ Awell-written, yet incomplete plan, indicates ―inability to follow through.‖Before we look at the contents of a plan, let‘s talk about the form.
    • Handout for Entrepreneurship 101 P a g e | 100Ask Yourself Am I confident about the prospects for my business? Does my confidence show in the way I describe the details that go into the plan? Am I able to do a complete work, without leaving out important parts of the plan? Do I make the effort to dig out information that will enrich the analysis, even if it is difficult to find this information?3. Writing Style For A Business PlanThe plan should show evidence of your company‘s potential for success. Content isimportant. You are going to impress an investor more by what is in the plan than by theeloquent way you say it. For this reason, the business plan must use a writing style thathighlights content and presents facts in a clear, concise, and lively manner. This meansusing language that is straight to the point. Use short and declarative sentences. Avoidexaggeration.Read closely the following statements:―This is the best business opportunity I have ever seen.‖―The profits are guaranteed to come within the first year alone.‖―We have no competition whatsoever.‖Such exaggerations mark you as a beginner. They divert attention away from content.Look at the style of The Wall Street Journal. It is written and edited for thecomprehension level of a high school student. It is a good model.A typical venture-capital firm receives over 2,000 business plans a year. Do not deludeyourself into thinking that your investor is eager to read your plan. He might merelyglance at it. So, make it a tough and credible plan. Make it interesting. Make it factual.Keep the tone professional. Keep it simple and clear.4. Characteristics Of A Good Plan short and simple interesting easy to understand contains no typing errors contains visuals and graphsKISS is a term from the advertising world. It stands for ―keep it sweet and simple,‖according to one version.
    • Handout for Entrepreneurship 101 P a g e | 101Research finds that 20% of the people who watch an advertisement don‘t understandit, and even 15% attribute the advertisement to a competitor. (Meaning, theadvertisement was too complicated to grasp.) Since the average consumer inindustrialized countries is exposed to over 2,000 advertisements a day, advertisers haveto keep their messages simple if they want them understood. It is the same with abusiness plan. Be understood. Don‘t confuse the reader.How much data do you pack into the plan? A fine line exists between too muchinformation and too little. Putting in a ton of data looks impressive but can overwhelmthe reader. Use too little and you may miss discussing something the reader considersimportant. The bottom line is that your business plan must do what it is intended to do,and convince someone to invest money. “Everything should be made as simple as possible, but not simpler.” Albert Einstein.Remember that you wish to capture and sustain the attention of your reader. Start byrecognizing that people seek relevance in communication. (Readers think: What is thisall about? Why should I even read it?) Messages that have the greatest relevance arethose with high impact and low processing effort. Add impact to your message. Keep it simple.Make sure that there are no typing errors. Present the plan with good printing andbinding. Presentation counts. Software can help you. Word processing programsroutinely correct errors in spelling and grammar. Presentation graphics and desktoppublishing make it easy to include graphs and visuals in layout. Have a few multi-colorgraphs, but not too many.Ask Yourself1 Am I ready to rewrite and revise the draft of the plan until it reads like a professional document?2 Am I willing to be corrected in matters of grammar and style?
    • Handout for Entrepreneurship 101 P a g e | 1025. Contents Of The PlanAlthough business plans differ with respect to style and format, the following elementsare essential components. 1 Cover letter, Title Page, Table of Contents 2 Executive Summary 3 Company Summary 4 Market Analysis 5 Marketing Plan 6 Operations Plan 7 Business Model and Financial Forecasts 8 Management Profile 9 Risk-and-reward profile 10 AppendixLet us take a closer look at the sections at the beginning and at the end of the plan.These sections are quite important. Readers remember most the beginning and the endof a document.Executive SummaryThe executive summary covers the highlights of your business plan. The purpose of thesummary is to convince readers that your business has merit. It encourages them toread the remaining sections. It is what the investor will read first.The executive summary should include: 1 Purpose: Describe the intent of your business plan. Do you want to obtain financial backing, establish partnership interest or something else? Define your business idea briefly, clearly, and convincingly. 2 Opportunity: Describe the market potential of the business. How large is the market? What are the growth prospects? Who are your likely competitors? 3 Benefits: Describe what makes your product or service unique and qualified to compete. In what way is your product or service meeting needs that the competition does not, will not, or cannot meet? 4 Financial requirements: State how much is needed to put your business plan into action. 5 Growth: Outline how your company will grow in the next few years.The executive summary lays down the main points of your business in one or twopages. In these few paragraphs you must convince the reader that you have acompelling business opportunity and that your company‘s product or service will exploitthis opportunity.
    • Handout for Entrepreneurship 101 P a g e | 103The executive summary should be your business plan condensed to its finest elements.For this reason, most entrepreneurs write this section last, when they have thoroughlythought through the enterprise.Note: whoever reads the business plan, should agree in writing to keep everythingconfidential. They should agree, not to steal your business idea, not to implement yourplan by themselves without permission, not to compete with you in the same line ofbusiness. Get them to sign the agreement, before you show them the plan. If theyviolate the agreement, they would be liable for lawsuit.Company SummaryThis section assumes that the reader knows nothing about you or your company. Thecompany summary tells the readers what the company is, who is behind it, and whereit is going.The company summary should include: Names: The name of the business, the owner‘s name and the names of key people. Background: brief background & description of the people involved. History: short history of the industry showing the trends, the emerging opportunities. Indicate how your company has spotted a niche. Goals: Business goals and objectives: how to exploit an opportunity. Glossary:The company summary tells the reader what the company is, who is behind it and where it is going.The company summary provides an account of your business operations, any history,purpose, and organization.Next is a brief background of the people involved (owners & management) as it flowsnaturally from the company summary. But we suggest putting the full-lengthmanagement profile at the end. It can remain longer in the reader‘s memory, by beingthe last to be read.
    • Handout for Entrepreneurship 101 P a g e | 104STORY FROM REAL LIFEJohn Sortino is the founder of the Vermont Teddy Bear Company. He first got the ideafor making teddy bears in 1980, not long after the birth of his first son. ―He had 38stuffed animals, not one of which was made in the US,‖ Sortino recalls. ―So, I madehim one—named ‗Bearcho.‘ I made others.‖He eventually made millions of other cuddly, customized teddy bears. Made famousthrough radio ads and gift options, the company created customized teddy bears anddelivered them to lucky recipients via specially designed ―BearGrams.‖Sortino recalls that he was no different from other entrepreneurs who needed help toturn their vision into reality. He needed tutoring. ―Having a business sounds like awonderful dream, but it‘s really very tough,‖ he says. ―You‘re by yourself, your plansmay not be working out, and you‘re trying to figure out how to solve problems or keepthings growing.‖ Sortino consulted business mentors to assist him with preparing hismarketing plan, operating plan, and financial plan.Soon after transitioning from a privately held business to a public corporation, theVermont Teddy Bear Company was ranked 21st on Inc Magazine‘s list of fastestgrowing public companies in 1994. Sortino left the company in 1995 to pursue otherinterests. He is now a business consultant. He also authored the Complete Idiot‘s Guideto Successful Entrepreneuring, now in its fifth printing. He is planning to write businessbooks for high school students.(Source: Score.com)Management ProfileIt would be good to talk about the importance of the management profile before we getto the section itself. There are many criteria by which business plans are evaluated.Many venture capitalists say, management capability ranks first; above the merits of theproduct or the financial returns.Management capability can be indicated by: the skills, knowledge, and personality of the entrepreneur,
    • Handout for Entrepreneurship 101 P a g e | 105 the achievements of the entrepreneur, and good references from respected professionals.Investors place a lot of importance on the skills, knowledge, and personality of theentrepreneur, as demonstrated by: Market knowledge (familiarity with the target market) Staying power (also called endurance, persistence, or tenacity), and A proven ability to achieve goals (as shown by the achievements).We all know that a business plan should adequately describe the product and themoney to be made. But it would be a mistake for a business plan to write only aboutthe product and the financials. Some entrepreneurs spend too much time, describing their beloved product in a business plan, simply because it is the subject they know best. They go on for page after page describing the product, as if they are more interested in praising the product than in selling it. The other common mistake is to write too much about the financial forecasts, or even to make optimistic projections for sales and profits. Whenever a seasoned investor sees extremely-detailed financial projections for a new company, he regards it as elaborate fiction, based on imagination. There is no way that a wonderful future can be predicted so accurately.Investors know all about business plans with overinflated projections. In their minds,they already scale down the fantastic figures in the business plan. The comments ofJohn Randolph, a New York venture capitalist, represent a common feeling amonginvestors. He says: ―How can anyone figure out what sales and earnings and returnsare going to be, three or five years down the road? It is beyond me! I view the businessplan as an opportunity to evaluate the people. If I like what I see in the profiles, then Iwant to sit down and talk to them.‖Let us say that the investor likes the product already and has glanced at the financialprojections. Next step: he needs to check if this management team has the ability tomake this business run.In other words, there may be a good product, and there might be good money to bemade, but who is the best person to run this particular business? We need to lookclosely at the entrepreneur, at his management team.The role of management is very important. Since the 1980s, venture capitalists haveexercised the power to dismiss or replace senior management, if they are found to beunsuitable to drive the business. Senior management is the critical ingredient thatmakes or breaks a business.
    • Handout for Entrepreneurship 101 P a g e | 106By now, you should be convinced of the importance of your management profile. Doyour best, to write about the personal qualities and professional backgrounds of thecompany‘s management team. List their skills, and abilities. Attach the resumes of eachperson. The management profile talks about the personality and background of the members of the management teamComponents of the Management Profile are: Organization: an organizational chart, showing who reports to whom; what functions they perform. Resumes: Educational background, professional history, work experience; references, respected people who can speak well of the manager. Professionals: mention the attorneys, accountants, business advisors or industry experts you plan to consult.Your management team is either the greatest weakness or the greatest strength ofyour business. You and your managers must have a good blend of experience, vision,and leadership. They should have skills and experience directly relevant to today‘sbusiness opportunity. If they had worked together in the past, that would be ideal.Risk-and-Reward Profile. Businesses face opportunities as well as risks. A goodbusiness plan does not skip the risks. Risk is unavoidable. Your business plan mustunflinchingly confront risk, in terms of potential problems and threats.Problems and threats can be anything that weakens the business opportunity.When circumstances change, what used to be an attractive business might suddenlybecome unattractive. Every business plan should write about the context and thecircumstances that make the opportunity so good today, but subject to changetomorrow. (Example: the product I will sell, is already in huge demand today. I ammerely increasing the supply, to meet the pent-up demand. But once the pent-updemand is met, I will have to do something different. I will have to sell the public avariation of the same product, or sell the same product in another country, to keep thesales going up. That‘s how I plan to deal with the changing circumstances.)The best business plans show the business opportunity and the context from multipleangles. The outcome is still hard to predict. But it is a fair attempt to give the investorsa sense of the risks they will assume. (Example: my product should be profitable tosell, because the production cost is 50, and the selling price is 80, while the competingbrand sells for 120. But what if the competing brand lowers its price to 80 as well?Don‘t worry, I have two plans for that. From the ―angle‖ of the production manager, Ican lower the production cost to 30, and lower my selling price to 70—my profit marginimproves from 30 to 40. From the ―angle‖ of the marketing manager, I can keep myproduction cost at 50, spend 30 on advertising to get a premium image, and raise my
    • Handout for Entrepreneurship 101 P a g e | 107selling price to 120. If I succeed, the new profit margin will be (120 minus 80 = ) 40,higher than the previous 30. Those are two possible angles.)Investors must be compensated for the risks they take on. Session 8 will explain howyou can demonstrate the rewards of the enterprise, calculate the money needed forinvestment, and estimate the money to be made, overall. It will explain the ways bywhich investors evaluate rewards. Once you have done all that in a complete financialplan, you can come back here, and do a short summary that explains to investors therisks and potential rewards of the deal.Ask YourselfAm I going to be able to write honestly and fairly about: the strengths and weaknesses of my business. my first few employees and managers my prospects for success or failure.Will I be able to speak about the major risks confronting the business?Will I mention all the risks?If three or four risk factors go bad at the same time, could there be a business failure? (If yes, I should honestly state it.)6. Tip: Think Of the ReaderWrite the plan from the point of view of the reader. Write it for the venture capitalist.He is placing money into your company. He wants to see how you intend to deal withthe risks and achieve your objectives no matter what.It will help enormously to put yourself in the place of your prospective investor. (As atest, get a trusted friend to read the plan, and to criticize it, to suggest improvements.)It will help you to respond to the readers concerns, rather than letting yourself writewhat interests you, the entrepreneur.This does not mean that you should change the nature of the business, just to suit thereader. Let us take the example of a writer who submits his work for publication. Thework is going to be rejected and commented on, many times over. The writer mayagree to make small refinements, but the logical next step is to look for a differentpublisher. No writer is going to completely change the entire book after everyrejection.Similarly, you do not have to revise the entire business depending on what the readerwants to read. If the choice is between: (1) getting funding for a completely differentbusiness that your investors want to see, and (2) not getting funded at all, werecommend (2) not getting funded at all.
    • Handout for Entrepreneurship 101 P a g e | 108It is your business and it is your business plan. You are the author. Act like one. Yourinvestor is your publisher. You need to understand your publisher‘s wants and marketconstraints. Be able to see the judgment from their point of view. But do not ever losesight of the fact that the plan is your creation.What if the investor disagrees with your views or even rejects your plan? That is onlyto be expected. Just as a writer searches for another publisher, rather than change thebook, you should go looking for another investor rather than completely change yourplan.STORY FROM REAL LIFEIn 1987, money from the venture capital firm Sequoia Capital helped turn CiscoSystems from a small, struggling business into the world‘s leading supplier of ―routers‖that link computer networks in different locations.Sequoia Capital was the 77th venture capital firm the founders of Cisco had approached.The other investors were not ready for the revolutionary product of a router. They didnot understand the potential of the internet. They were all proven wrong. Luckily, CiscoSystems was persistent. Luckily, too, Sequoia Capital understood the potential of theinternet in 1987, when there was very little ―actual‖ to see.Ask Yourself Can I develop the skills of seeing things from the point of view of my reader? Can I train myself to empathize with the perspective of the person I am dealing with?ConclusionA business plan is a written document that details your vision of the business in thefuture. While the business plan is valuable to many readers who are connected to thebusiness, like the prospective managers or staff, the plan is written mainly for theoutside investor to obtain funds from them. A well-written business plan uses clear,simple language, is interesting, and easy to understand. It should look professional.Points To Remember 1. The business plan is your means of communicating your vision to the world to help you attract talent and money to the business. It is a detailed statement of what your business is going to do in the future.
    • Handout for Entrepreneurship 101 P a g e | 109 2. The readers of your business plan are: banks, venture capitalists, and private investors. Also your management team and business partners. 3. The characteristics of a good business plan: o short and simple o interesting o easy to understand o contains no typing errors o contains visuals and graphs. 4. The major sections in the business plan are: executive summary, company summary, management profile, risk-and-reward profile 5. The executive summary covers the highlights of your business plan. The purpose of the summary is to convince readers that your business has merit. 6. The company summary tells the readers what the company is, who is behind it, and where it is going. 7. The company summary should include: names, background, history, and goals. 8. The management profile includes: organizational chart, resumes of management team, and professionals to be consulted. 9. Businesses have opportunities as well as risks. A good business plan does not skip the risks. Risk is unavoidable. Your business plan must unflinchingly confront risk in terms of potential problems and threats. (You decide whether to discuss the major risks only or to disclose all risks. Whatever you think will work best.) 10. The executive summary should explain: o Purpose: intent of your business plan. o Opportunity: market potential of the business. o Benefits: unique selling proposition o Financial requirements: much is needed o Growth: how your company will grow in the next few years. 11. Write the plan from the point of view of the reader. It will help enormously to put yourself in the place of your prospective investor. (As a test, get a trusted friend to read the plan, and to criticize it, to suggest improvements.) It will help you to respond to the readers concerns, rather than letting yourself write what interests you, the entrepreneur.GlossaryBusiness plan: A detailed statement of what your business is going to do in the future.
    • Handout for Entrepreneurship 101 P a g e | 110Executive summary: The first section of a business plan covering the main points of the document. Its purpose is to convince readers that your business has merit. It encourages them to read the remaining sections.Company summary: The section of the business plan that tells the readers what the company is, who is behind it and where it is going. It provides a brief account of business operations, history, purpose and organization.Management profile: The section of the business plan that details the backgroundsof the company‘s management team.Review questions 1. Define a business plan 2. List the readers of a business plan 3. List the characteristics of a good business plan 4. List the components of a business plan 5. Define the following sections: executive summary, company summary, management profile, risk-and-reward profile 6. What do readers look for in the executive summary? 7. Why is it important to write a business plan from the point of view of the investor?Discussion Questions 1. You need to provide information to investors to convince them of the merits of your business. Yet it is dangerous to give out all information: someone might be so convinced of your business that they will copy it! What information do you hold back from investors? 2. Recall that many successful businesses started out without a business plan. Are you convinced that one is needed for your own business idea? Discuss your answer with those of your peers so you have a sense of the factors to consider in deciding when to write a business plan. 3. If you have a brilliant business idea but do not have the expertise in some fields (such as technical or financial expertise), how would you go about securing that expertise? How do you convince investors to support you without this expertise?Learning From The Internet 1. http://www.bplans.com/ -- Featuring 500 sample business plans. They sell a software for assisting entrepreneurs with guide questions.
    • Handout for Entrepreneurship 101 P a g e | 111 2. http://www.entrepreneur.com/startingabusiness/businessplans --Browse through 50 sample business plans to get inspiration for your own. 3. http://www.score.org -- see ―business plan for a start-up business.PDF‖Case StudyRead this sample business plan:―InteliChild.com offers bright children an entertaining place to interact with each other,the Web, educators, and the world in general. It generates traffic first, valuation forinvestors, and eventually commerce and profits. It is a healthy place for kids to play, forparents and schools to buy, and a creative and fair work environment for employees.―The InteliChild.com e-commerce project is the natural evolution for the InteliChild.comInternet presence. The site will market and sell selected toys, books, and softwareproducts. It will also produce Web products and Web applications that will increasemarket share, promote name recognition, and maximize efficiency.―The present InteliChild.com is a start-up company with four full-time employees. Thecompany was incorporated as a corporation owned by its principal founders, at 25%ownership each. Our key competitive advantage is the in-house knowledge base wehave developed. Our competitor spends five to 10 times the amount of money we dooutsourcing to expensive companies for services we perform in-house. The same willtake place with the InteliChild.com website.―InteliChild will be offering a steadily increasing mix of three lines of products: * Toys and Games: carefully selected toys and games that appeal to the targetmarket, the parents of the target market, and educators. * Books: there should be a selection of books that appeal specifically to the parentsand educators of gifted children, so that these interested adults can go to this site andorder books about gifted children. In addition, of course there is also a selection ofbooks to be ordered by and for the bright kids to read. * Software: carefully selected software to appeal to the target market and targetparents and educators.―The InteliChild.com market has been expanding exponentially with the advances oftechnology in the teaching sectors and the acceptance of technology as a teaching aid.The critical component to our entrance into the market will be approval and supportfrom the school communities - including teachers, the PTA, and special educationprograms.
    • Handout for Entrepreneurship 101 P a g e | 112―Our primary target markets include these four areas: 1. Bright Kids. Kids who are brighter than average. 2. Their Parents. 3. Educational institutions for bright children in the upper income brackets. 4. Self-teaching families.―While we have plans to expand into international territory, our initial launch will targetour most important market - the American upper income-bracket. We know that mostof our clients have money. They spend good money on their children. They appreciatethe technology that we have created. They have good taste. They are impressed byfirst-class design.‖(Source: http://www.bplans.com)Case Analysis questions 1. Is the business plan clear about the nature of the business? Is it a place for kids to play or a bookstore? 2. Is the business plan clear about the primary target markets? 3. Is the business being supported by schools and teachers? Or is that still missing?Exercises for SESSION 5: THE BUSINESS PLAN Answer these questions in the space provided: 1. Define a business plan. 2. List the readers of a business plan. 3. List the characteristics of a good business plan.
    • Handout for Entrepreneurship 101 P a g e | 113 4. List the components of a business plan. 5. Define the following sections: executive summary, company summary, management profile, risk-and-reward profile. 6. What do readers look for in the executive summary? 7. Why is it important to write a business plan from the point of view of the investor?Essay questionYou and your friend have come up with a new fruit drink that is good for peoplewith health problems. You want to convince some friends of your father to invest inyour business. Write an executive summary for your business plan.
    • Handout for Entrepreneurship 101 P a g e | 114 SESSION 6: THE MARKETING PLANOverview. In the last session, we discussed the sections that highlight the main pointsof the business plan. These sections are the executive summary, the companysummary, the management profile, and the risk and reward profile. The aim of thesesections is to give a strong impression to the investor that the opportunity is compellingand that you and your team are the best people to run it.Of course, the investor will need more than just the main points to be convinced andsupport your business idea with funds. The next three sessions provide the neededdetail to achieve your goal. We start with the marketing plan. You might want to take amoment to review your notes on your customers and competitors. Your insights on yourcustomers will guide the marketing effort.Sections:1. The Market Analysis • Industry • Competitors • Customers2. The Marketing Plan Product Price Place Promotion3. Adjust to RealityLearning ObjectivesAt the end of this session, the student should be able to: 1. Define marketing plan and market analysis 2. Discuss the goals of market analysis 3. Distinguish product features from product benefits 4. Illustrate ways by which the unique selling point may be achieved 5. State the goal of pricing. Suggest appropriate ways to price a product 6. Suggest ways to distribute, support, advertise and promote a product
    • Handout for Entrepreneurship 101 P a g e | 115STORY FROM REAL LIFEMike was applying for a janitorial job in a multi-national company in the suburbs(outside the big city). He‘s a family man with three children in high school. He wasn‘thired for the job because he lacked some qualifications.Frustrated, he walked down the street and bumped into a pile of beautiful red tomatoesin the middle the street. He wondered why the tomato vendors are selling thesetomatoes in the middle of the busy street where people may accidentally bump themall.Then he started thinking that if he could sell those tomatoes in his side of town, hemight make some money. With the last $10 in his pocket, he bought them all and stoodin a busy sidewalk in his side of town and started to sell the tomatoes. In less than anhour, he sold all his tomatoes and made an extra $10. The next day, he did the samething and again doubled his money.He told his wife about it. The couple decided to repeat the experience until they weretotally in the business of tomato sales. They were able to save enough money topurchase a truck to carry all the tomatoes to other parts of town. They were able tosend their children to college. Now their children, having finished accounting andbusiness courses, help out in their tomato enterprise.Moral of the story? A good dose of ingenuity and drive gets you entrepreneurialsuccess. It saves you from a stale job.IntroductionThe marketing plan lays down the roadmap or plan of action that is going to get yourcustomers to buy your product or service. It is vital to the success of your product, andby extension, the success of your business. Glossary: A marketing plan explains how you are going to get your customers to buy your product or service.The session will discuss market analysis before going into the marketing plan itself.Market analysis is the careful study of your customer and the players in the industry.
    • Handout for Entrepreneurship 101 P a g e | 116It leads to a strong external and customer focus that will serve you well in developingthe policies and decisions that will go into the marketing plan. Glossary: Market analysis is the careful study of your customer and the players in the industry.The plan itself will follow a well-established framework called the 4 P‘s of the marketingmix:Product – What is your product and how will it stand out against competition?Price – How will you price the product and why is it priced so?Place – Where can your customers find your product?Promotion – How will you advertise or promote your product?The easiest way to write your marketing plan is to go through each of these sections.It is very important is to emphasize that you are not saying, ―Dear Customer, I madethis product, therefore please buy it.‖It is the other way around.You must study the market by asking, ―Dear Customer, what product or service doyou want, that I can produce?‖Or ―Dear Customer, is this a product or service that you will want by next year? Ifyes, I will start planning today, to be able to produce it by next year.‖1. The Market AnalysisIn the market analysis section, the task is to identify who your target market is, howthe market is segmented, and which business is serving which market.Market Analysis studies the following areas in depth: Industry: Present highlights of your industry. Is the industry growing or declining? Do sales peak at certain times of the year and drop in others? Are there developments that may cause a major shift in the way the industry operates? What is needed for any company to succeed in the industry?
    • Handout for Entrepreneurship 101 P a g e | 117 The first step for entrepreneurs and investors is to make sure they are entering an industry that is large and growing. It is easier to obtain a share in a growing market than fight it out with existing players in a market that is on the decline. Competitors: List your major competitors. Is the industry ruled by a few players or are there many small players crowding the industry? What benefits do players claim their products have -- location, savings, ease of use, glamour, range of products, etc? How do your competitors get their customers to buy their products or services (in other words, what are their marketing plans, styles, methods, or approaches)? Customers: Who are your most likely customers and how many are there? Are you selling to businesses or to persons? What do your customers need? How do they behave? What are their common traits? Try to put a ―face‖ to your customer. It is easier to connect and sell to someone you can recognize than one that is abstract. Insert a graphic of a face and a caption ―Am I your customer‖? You must demonstrate that your customers need or want the product or service and are willing to pay for it. Existing businesses may find this easy to do but what if you are just starting out? In this case, you may build a prototype and offer it to several potential customers. The feedback from customers may be used as evidence to present to the investor. You may also avail of market research techniques that seek to uncover demand from a product concept.The goal of market analysis is twofold. First, you analyze the market to identify gapsand opportunities that you can exploit. Have some markets or customers been ignored?Are there benefits that are not yet claimed? Are there needs that are not yetaddressed? Are there needs that customers do not as yet realize? If you can identify agap, try to formulate a strategy to capitalize on this oversight.Second, investors need to be convinced that demand is big and growing to sustain yourproduct or service. Use statistical evidence where possible to back up your claims.Conclude your market analysis by addressing the two goals just mentioned. Youranswers to both goals must be positive for you to move forward. If a need exists butthe market is small, your business may not be profitable. If the market is large butcustomer needs are already met, a new player such as your business will find it hard tocompete.
    • Handout for Entrepreneurship 101 P a g e | 1182. The Marketing PlanProduct. What is your business selling to the customer? You can sell a single product,a range of products, a service or services, or a combination. For brevity, we will use―product‖ to refer to all of them. The goal here is to make your product unique anddifferent from the competition. Features: Describe the physical traits of the product, what it does, and how it works. Benefits: Show what the customer gets from your product. Entrepreneurs often assume that customers know why they will want to buy something just because they have been told about it. Product features have their place but the focus must rest squarely on product benefits. Do not leave customers to figure out why they want a feature. It is in your best interest to make the connection for them. Glossary A product benefit is customer need that is satisfied by your product Think from the viewpoint of the customer when identifying the benefits of the product. What customer needs does your product serve? How does your product make the customer‘s life easier? Safer? Healthier? More enjoyable? Generally better? Below is a lighthearted example of the difference between the features and benefits of a product: Product: A luxury sports car Feature Benefits 0 to 90 kph in six Eat my dust. seconds V8 engine Absolute power Red glossy paint finish You can‘t help but look at me. Designer interiors Am I cool, or what? $1 million price tag Yet another chance to display my status Can do tight turns Can you hear the screeching tires?
    • Handout for Entrepreneurship 101 P a g e | 119More to the point, state what benefit sets your product apart from all the rest.Why is your product unique, distinct, or better than what is available? When youcan lay claim to a difference that customers value, customers looking for it willautomatically think of your product. Marketing experts call this difference yourunique selling proposition (USP). The USP is at the heart of all marketingplans. Unique Selling Proposition: what sets your product apart from competitionThe following questions are helpful in identifying the unique selling proposition ofyour product:- What needs are you meeting better than anyone else?- What benefits do you deliver better than the competition?- What needs or customers do you serve that competition does not?- In the words of the Olympic motto, what are you offering that is faster, higher, stronger?Below are some ways to achieve a unique selling proposition: o Ease of use. Easy to use o Prime location. Accessible o Use of a new technology or process o First in the market o Savings, compared to existing products o Lowest cost o Customizable o Glamour, fashion, coolness o Luxury o Best customer service o Fastest to deliver o Trouble-free product o Friendly to the environment o Healthy, organic, natural o Socially-responsible, profits go to charityYour product does not have to better in every way -- it just needs to be better inat least one way. The value of a unique selling proposition cannot be stressedenough.Even in textbooks about manufacturing strategy, experts say that products mustmeet expectations but should have an exciting additional feature to beat thecompetition.
    • Handout for Entrepreneurship 101 P a g e | 120STORY FROM REAL LIFEMike Ramsay and his partner Jim Barton had an idea that would change the waymillions of viewers watch television. The company is TiVo and their product is the digitalvideo recorder. It allows viewers to electronically record their favorite TV programs andwatch them at their convenience. The product is so different that over 97% of theircustomers recommend TiVo to a friend. Many see it as a life-changing event.The response from investors was enthusiastic. ―I‘ve always wanted one of those!‖ saidone investor.The investors came in because they believed in the unique product that developed anentirely new way of recording and viewing television programs. Future: If you have a range of products or services to offer in the future, what would they be like? What new products can be developed, using the first product we offered? What new features can add value to the existing product? Discuss not only why your product is valuable today but also in the years to come.The product you intend to sell is at the heart of your business. When reading thissection, the investor wants to know how your product will work or be used. Most of all,he will want to know how it differs from the competition and how it benefits thecustomer in ways that existing products do not.Price. The pricing portion of the marketing plan lays down how you are going to pricethe product, how you came up with the price, and the return to the business as a resultof this price.Let us begin with the end in mind. The goal of pricing is to set the price and terms foryour product such that the highest possible profit is achieved. This is easier said thandone. Set the price too high and you drive away the customer. Set it too low and theadded volume may not compensate for the lower profit per item sold.
    • Handout for Entrepreneurship 101 P a g e | 121There is no single way to price a product. There are many approaches. The basic rulesare straightforward. The price should: - cover all costs - consider what customers can afford - provide the business a decent return - be related to product positioning; that is, how you want your product to be known to your target market Insert picture or graphic of someone pondering a swirl of numbers above his head, as if thinking of what price to chargeHere are the more popular ways to price a product: Based on costs: Calculate the cost to produce one item of your product. Add your desired profit on top of the cost, to come up with the price. Some costs such as raw materials and labor are easily identified with the item produced. Other costs such as transport and interest on loans are shared by the number of items produced to get to the cost per unit. The profit you will add can be in the form of an amount or a percentage. Below is an example of this method: Cost of materials 300 + Cost of labor 500 + Shared costs per item 200 = Total cost 1,000 + Desired 20% profit 200 = Selling Price 1,200 Based on product positioning: How do you want to be known in the market? Do you want to serve a broad range of customers or focus on a small but profitable segment? Is your product a luxury or a basic good? What is level of quality you want your product to be recognized? While the factors you will consider may be many and complex, pricing based on positioning can be reduced to two basic choices. If you want to serve a broad market and achieve high volume, the price must be low. If you want to focus on a small segment and accept low volume, you may charge a high price. One is not better than the other, but you do have to make a choice. Based on competition: Charge what the competition charges. There are several reasons why this makes sense. The price set by current competitors is a
    • Handout for Entrepreneurship 101 P a g e | 122 good indicator of what the market can afford. If competitors have thought through the issues, copying their price is an efficient way to price your product. Where products on offer are basically the same, it follows that they be sold at the same price. Based on achieving market share: The price can be set low to be appreciated and accepted by the market. Once the desired volume is achieved, the price can be increased. Based on savings: When a product saves the customer time, money or effort, the savings are used to set the price. Examples include prices for energy-saving light bulbs, toll fees and calls on the Internet.Pricing is more than just a number. You also need to decide on such things as allowingcredit, discounts for large purchases, discounts for early payments, and the differentprices as goods move from wholesaler to retailer to consumer. However you decide,always be mindful that the goal is to obtain the highest profit possible. This is what theinvestor is looking for in your plan.Place. Your product is great and you have priced it right. Your winning advertisementhas attracted customers. But when people go out to buy your product, the store doesnot have it in stock. Maybe the product was damaged as it went from factory to store.Your distribution plan is key to preventing these problems. “You can‟t sell from an empty wagon.”The place or distribution section of your marketing plan explains where the customer isgoing to find your product and how it is going to get there. It also outlines yourpayment methods and services after a sale. These parts are discussed below asdistribution methods and customer service. Distribution methods: Outline where the customer can get your product and how it is going to get there. Below are some of your options: - Your own salesmen and stores - The traditional wholesaler – retailer network - An agency or exclusive distributor - Distributor networks - Delivery services (couriers, overnight express package by airplane) - Internet for information or software - Telemarketing Using your own resources to sell the product gives you greater control. But be prepared to spend time and money to train your salesmen, to reward them to sell your product, and to build your own stores. Using distributors takes
    • Handout for Entrepreneurship 101 P a g e | 123advantage of their expertise built through the years but at the disadvantage oflosing control.Choose a distribution method that achieves the widest possible coverage at thelowest possible cost. Other factors that will go into your choice of distributionmethod are the technology used, the terms of delivery, and the time to deliver.Also discuss inventory levels to be kept in this section. Determining the level ofinventory to carry involves the study of several costs with a goal of loweringthem. These costs include the costs of holding inventory, of holding buffer orsafety stock, of ordering and of running out of stock.STORY FROM REAL LIFECriminal defense attorney Shawn Askinosie can teach us how to go into a newbusiness with nationwide distribution. His product is chocolate snacks anddesserts. Since 2008, Askinosies chocolate has been selling in food stores acrossthe USA.After working on two stressful court cases in the late 1990s, Askinosie begancooking to relieve the stress of the courtroom. He tried outdoor grilling, bakingpies and finally cupcakes and desserts using premium chocolate. In 2005, herealized that he really wanted to make chocolate, even though he knew nothingabout the business. "At that time, I visited the Amazonian rainforest of Ecuadorstudying cocoa harvest techniques."He contacted people in the chocolate industry, both farmers and manufacturers.It wasnt easy to learn the business. Most chocolate makers keep their recipes asecret. Their unique selling propositions are in those processes. AttorneyAskinosie had to produce his own recipes. To get training, Askinosie worked inan Ecuadorian chocolate factory, and began acquiring equipment.In 2007, Askinosie built a kitchen factory near his law firm, Askinosie and BilyeuLLC in Springfield, Missouri. The first chocolate rolled off the line in January2008. Askinosie Chocolate started to sell in specialty food stores across the USA.While he spends most days making chocolate, Askinosie keeps a suit in thefactory, in case he has to walk to his law firm and do some lawyer work. "For themost part, I am a chocolate maker," he says proudly.Source: http://smallbusiness.aol.com
    • Handout for Entrepreneurship 101 P a g e | 124 Customer service: How do you plan to serve the customer after he has made the decision to buy. - How will you process orders? Shipping? Billing? - What methods of payment will you accept? - What is your policy on replacing defective goods? What warranties will be offered? - If after-sales support is needed, how will you charge for this service? - How will you obtain customer feedback? How will you use it to improve your product? - How will you use customer information to generate more sales?Promotion. This section discusses advertising and promotions. Here we describe howyou are going to tell the customer about your product and its unique selling point.You have many, many ways to advertise or promote a product. Yet the goal ofcommunicating the unique selling point remains the same. Think first of what you wantto say and who you want to tell it to. Then, decide on the means that best relays themessage to your desired audience.Advertising and promotions is a complex field, rich in options. For the marketing plan,the one question you need to ask is ―What does it take for the market to know and buymy product?‖ These questions will guide you in making decisions. Advertising: Advertising seeks to inform or persuades the market to support or buy a product. It is usually paid for and uses various forms of media. Among the more popular media choices are: - radio and television - newspapers and magazines - phonebook directories - billboards and electronic signs - publicity such as media relations and public relations - trade shows and exhibitions - Internet - direct mail - Phone SMS (text message) campaigns Promotion: Other activities that persuade the customer to buy the product, but do not fall under advertising, may be called promotions. These activities are usually well-defined, short-term, designed for immediate effects and are thus offered at a time and place where the buying decision is made. Promotions are limited only by the imagination. These can include:
    • Handout for Entrepreneurship 101 P a g e | 125 - Free samples: your people hand out free samples at a supermarket or a street corner. - Coupons: you hand out pieces of paper that entitle the holder to get a discount when buying your product at a store. - Product displays: making the product visible or available for sale outside of stores but in places where people congregate. - Demonstrations: if your product is an appliance or device at a hardware store, employ a staffer to show the shoppers how the device is used, what household problem it solves, and why is it so convenient to use, etc. The value of promotions lies in the potential to drive up sales for less than what a typical advertising campaign would cost.STORY FROM REAL LIFEFront Company creates and executes images that shape a television stations‘ brand.They also do the opening sequences of television shows. In just two years, thecompany has grown from a one-man shop to a full-scale creative house with 12 designworkers. Its owner, Jeff Rustia, credits the company‘s success to creative thinking.And he is not just talking about design.Front Company does not advertise. To get noticed, it does its best to come up withaward-winning work. Since it opened, Front has won at least six awards from theindustry‘s equivalent of the Oscars. These awards have made Rustia an in-demandspeaker. He accepts as many speaking engagements as his schedule will allow. ―Theyrean incredible way to promote our company," he says.When you have determined the advertising media placements and promotional activitiesyou will need, it is fairly easy to come up with the advertising and promotion budget.Just add the items to get the total.If you already have a budget in mind, the challenge is how to assign the budget acrossthe advertising and promotional choices. You have a fixed amount, and you mustallocate the money among competing demands for budget.You must also estimate the business (additional sales) you expect to bring in as a resultof advertising and promotion. The investor will want to know if his money will be spentwisely.
    • Handout for Entrepreneurship 101 P a g e | 126STORY FROM REAL LIFEAskinosie Chocolate organized a promotion event for a new product called ―Davao Bar‖on January 30, 2009, in Springfield, Missouri, to invite people to taste the product, andto hear the story of how it was made.Every company attempts to formulate a unique selling proposition. This was the pitch,in five parts:(1) Askinosie Chocolate said, ―we now offer a single-origin chocolate bar using cocoafrom the Philippines. The product is called ―Davao, Philippines 77%‖ after Davao City insouthern Philippines.‖ Apparently, the chocolate that goes into a single bar usuallycomes from several places.(2) They made press releases quoting experts. They said, Ari Weinzweig, founder ofZingerman‘s Deli, describes the Davao 77% Bar as ―Dark and deep with a touch oftoastiness. It‘s dry like a full-bodied, well-aged red wine.‖(3) The Davao Bar is said to be from lush, tropical, shade-grown, chemical-freeTrinitario beans. It is described as the ―chocolatiest-tasting bar‖ from Askinosie yet.(4) The company works directly with farmers and buys their produce. This arrangementallows the chocolate to be traced to the source and to be labeled ―Authentic Single-Origin Chocolate.‖ It also allows Askinosie Chocolate to share its profits with farmers.(5) ―The first cacao brought to Asia in 1600 was grown in the Philippines, the companysaid. ―Askinosie Chocolate is the first to export Filipino cocoa beans to the USA innearly 25 years.‖As part of the promotion event, government officials from the source country wereinvited to participate. (This is a form of word-of-mouth or mouth-watering advertising.)2. Adjust To RealityMany common deficiencies occur in the marketing sections of business plans.Entrepreneurs tend to ignore negative market information, underestimate what is required to get their products to market, and overestimate demand.
    • Handout for Entrepreneurship 101 P a g e | 127Another weakness of many business plans is: too much optimism, not enough reality, inthe assumptions of sales volume. To correct this weakness, you need to support yourestimates of market size and growth rates with facts. This requires market research.Make some market surveys, customer questionnaires, and demographic studies. Theirfindings lend credibility to an entrepreneur‘s sales projections.ConclusionA marketing plan needs to lay down a roadmap or plan of action that is going to getcustomers to buy a product or service. This plan is vital to the success of the productand to the success of the business.Where do you start? You need to start with a careful analysis of the customer and ofthe players in the industry.Be sure that the industry you are entering is large and growing. You explain to thereader of the plan, the features and benefits of your product. You highlight theproduct‘s unique selling point. After highlighting product, you elaborate on the othercomponents of a marketing plan, which are place, price, and promotion.Where do you end? You write down the policies and programs that make up themarketing plan.Points To Remember 1. This session discussed the marketing section of the business plan. It has two parts: market analysis and the marketing plan itself. Market analysis is the careful study of your customer and the players in the industry. It leads to a strong external and customer focus that will serve you well in developing the policies and decisions that will go into the marketing plan. The goals of the market analysis are to identify gaps and unmet needs that the business can exploit and to demonstrate a large and growing demand to support the business. 2. The marketing plan followed the 4 P‘s framework of product, price, place and promotion. Your customer and the unique selling point of your product are the drivers that guide decisions in the marketing plan. 3. Product features describe the physical traits of the product, what it does and how it works. 4. A product benefit is a customer need that is satisfied by your product
    • Handout for Entrepreneurship 101 P a g e | 1285. Unique selling points state what benefit sets your product apart from all the rest. Why is your product unique, distinct, or better than what is available?6. To find out the unique selling point, answer these questions: - What needs are you meeting better than anyone else? - What benefit do you deliver better than competition? - What needs or customers do you serve that competition is not?7. How to achieve the unique selling point, look for the following: o Ease of use/ easy to use o Preferred location/ accessible o Use of a new technology or process o First in the market o Savings compared to existing products o Lowest cost o Customizable o Glamor, fashion, coolness o Luxury o Best customer service o Fastest to deliver o Trouble-free product o Friendly to the environment o Healthy, organic, natural o Socially-responsible, profits go to charity8. The goal of pricing is to set the price and terms for your product such that the highest possible profit is achieved. The price should: - cover all costs - consider what customers can afford - provide the business a decent return - be related to product positioning; that is, how you want your product to be known to your target market9. Distribution network explains where the customer can get your product, and how it is going to get there.10. Customer service is about what to do after the customer has made the decision to buy.11. Advertising seeks to inform or persuade the market to support or buy a product.
    • Handout for Entrepreneurship 101 P a g e | 129 12. Most other activities that persuade the customer to buy the product but do not fall under advertising may be called promotions. These can include free samples, discount coupons, product displays, and organizing demonstrations how to use your product.GlossaryMarketing Plan: A roadmap or plan of action that is going to get your customers to buy your product or service.Market Analysis: A careful study of the customers and competitors of a business. It identifies the target market, the competitors and the way the market is segmented.Product Benefit: the customer need that is satisfied by your product. The value of your product to the customer. The strengths of your product from the customer‘s point of view.Unique Selling Point: The benefit that sets your product apart from competition. This difference is what makes your product distinct or different from what is available in the market and is a valuable marketing tool.
    • Handout for Entrepreneurship 101 P a g e | 130Review Questions 1. When entering an industry, what is the first thing you must find out? 2. What should you learn about your competitors? 3. What questions should you be asking about your customers? 4. What are the two goals of market analysis? 5. What are the parts of a marketing plan? 6. How is a marketing plan different from marketing analysis? 7. What is a product feature and how is it different from a product benefit? 8. What is a unique selling proposition? 9. What is the goal of pricing? 10. What are the different bases in pricing your product? Name at least three. 11. What are the different ways your product may be delivered to the customer? Name at least four. 12. What are the forms of media where your product may be advertised? Name at least four.Questions for Discussion 1. Suppose you want to put up a gym right outside the university. Who would be your most likely customers? Describe your target market as completely and as concretely as you can. 2. Can you use a low price as the unique selling point for your product? What are the likely effects of this strategy? 3. If you are just starting a business, it is likely that your funds are quite limited. An inexpensive way to get the customer to buy your product is through promotions. Can you think of creative, yet not so costly ways, to promote a small business such as a shisha / hubbly bubbly café or a barber shop?
    • Handout for Entrepreneurship 101 P a g e | 131Learning from the Internet1. To know more about the marketing plan:http://www.sba.gov/smallbusinessplanner/manage/marketandprice/SERV_MARKETINGPLANS.htmlhttp://www.entrepreneur.com/marketing/marketingbasics/marketingplan/article43018.html2. To know more about advertising and promotions:http://www.sba.gov/smallbusinessplanner/manage/marketandprice/SERV_ADPRIMER.htmlhttp://www.sba.gov/smallbusinessplanner/manage/marketandprice/SERV_15IDEAS.html3. How to start a business in email marketing that earns one million dollars, by the ageof 23:http://www.zeromillion.comCase StudyThree entrepreneurs wanted to introduce European-style bicycles to the Canadianmarket. The bikes differed from existing bikes because the rider sat upright instead ofhunched over the handlebars. The bike also had guards on the wheels and chain soclothes don‘t get entangled. The new business operated under the name Jorg & Olif.―We‘re the only company in North America to sell Dutch city bikes,‖ said their CEO. Togain exposure, the firm used an art gallery as a temporary showroom. It also usedpress releases and email to promote the product launch. The CEO partnered with well-known retailers to display their bikes in their windows. In return, Jorg & Olif displayedthe retailer‘s shoes and clothes at their product launch. Over 250 people attended thelaunch.The CEO used other innovative methods to get his product noticed. He locked hisdistinctive bikes at bike racks outside hip outlets like Starbucks. An attached pouch wasfilled with brochures outlining how to buy the bikes. In five months, the firm had rackedup about $40,000 in sales and was on its way to opening its first store.Case Analysis 1. What made the bike different?
    • Handout for Entrepreneurship 101 P a g e | 132 2. What was the unique selling point of the product? In your view, was the selling point different enough for customers to prefer the product? 3. In what ways did the business promote its product? What are the advantages and disadvantages of their methods? Were these methods successful?EXERCISES FOR SESSION 6: THE MARKETING PLANAnswer these questions in the space provided. 1. When entering an industry, what is the first thing you must find out? _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ ________________________________________________________ 2. What should you learn about your competitors? _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ ________________________________________________________ 3. What questions should you be asking about your customers? _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _______________________________________________________ 4. What are the two goals of market analysis? _________________________________________________________________ _________________________________________________________________ _________________________________________________________________
    • Handout for Entrepreneurship 101 P a g e | 133 _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ ________________________________________________________5. What are the parts of a marketing plan? _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ ________________________________________________________6. How is a marketing plan different from marketing analysis? _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ ________________________________________________________7. What is a product feature and how is it different from a product benefit? _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ ________________________________________________________8. What is a unique selling proposition? _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________
    • Handout for Entrepreneurship 101 P a g e | 134 9. What is the goal of pricing? _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ 10. What are the different bases in pricing your product? Name at least three. _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ 11. What are the different ways your product may be delivered to the customer? Name at least four. _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ 12. What are the forms of media where your product may be advertised? Name at least four. _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________Activities1. Write down five best selling items in supermarkets today. Write why they are sopopular. What age group is most likely to buy the item the most? (Teen-age? Middle-Age? Senior Citizens?)2. Let us be imaginative, and write down the products or services that will be indemand two years from now. They dont exist yet but the market trends will move intheir direction. They will become popular the moment a creative person invents themand an entrepreneur makes a business out of them.3. Pick out a ―cool‖ product (say, a gadget) that one member of your group owns.Discuss the product‘s features and benefits.4. Go to a food court in a shopping mall. Name the restaurants. Identify the uniqueselling proposition of each outlet.
    • Handout for Entrepreneurship 101 P a g e | 135 SESSION 7: THE OPERATING PLANOverview. The product or service that you offer to the public through your marketingplan is just the tip of the iceberg. Unseen to the customer is a host of activities thatcreate the product or make the service available. The term ―operations‖ covers thesebehind-the-scene activities. You may say that marketing is the face your businesspresents to the outside world. Its inner workings fall under operations.How you set up and run your operations is the subject of the operating section of thebusiness plan. Your main goal in writing the operating plan is to demonstrate to theinvestor that you know how to produce or deliver your good or service.Note on “Product” or “Service”Most concepts in this session are valid for either a product or a service. Whenever thebook mentions the word ―product‖ you may safely substitute the word ―service.‖Sections:Components of the Operating Plan: Production activities Support Activities Capacity Planning Estimating CostsLearning ObjectivesAt the end of this session, the student should be able to: State the subject and goal of an operating plan Explain why marketing dictates operations (and not the other way around) Define and distinguish production activities from support activities Illustrate a simple production process as a process flow or a flowchart State the goal of capacity planning and the sources of inefficiency Cite situations where demand may still be different from capacity despite planning Distinguish start-up costs from running costsSTORY FROM REAL LIFEMystic Masala is a small business in Canada. It offers handmade aromatherapy soycandles and body and shampoo bars made with spice, herb, and flower oils. Importingis vital to its operations. Based on her experience, the owner has several suggestionswhen importing:Do your homework before you begin. Know the product codes and laws that apply tothe goods you want to import.
    • Handout for Entrepreneurship 101 P a g e | 136Customs brokerage fees vary depending on the agent. Shop around for a cost-effectiveand reliable option. Doing the paperwork yourself could save several hundred dollarsper shipment.It can be more difficult to guarantee quality when shipping merchandise. ―Originally, Ihad my soaps shipped via cargo boat. But after coming all the way from Nepal in theheat and through the monsoon season, they didn‘t always arrive in the best shape. NowI have them sent by air cargo.‖(Source: http://www.smallbusinessbc.ca/contest-success-stories.php)IntroductionOperations convert inputs into outputs. Inputs are the resources used by yourbusiness such as materials, labor, and machines. Outputs are the goods you produce orthe services you provide. The main activities that do the conversion may be called youroperations process. Managing operations consists of developing, coordinating, andcontrolling the operations process. Operations convert inputs into outputs. Inputs are the resources used by your business such as materials, labor, and machines Outputs are the goods you produce or the services you provide.After operations has come up with the product (or service), marketing takes over byenticing customers to buy the product. Why, then, did we discuss marketing beforeoperations when operations come before marketing in the natural flow of business?If you let operations dominate or dictate business affairs, then you are thinking like aninventor. You will come up with something you really want that the market may notappreciate. By having marketing as the driver of the enterprise, you ensure that yourproduct and the activities that create it are aligned with the needs of the customer. Begin with the end in mind --- Steven Covey, 7 Habits of Highly Effective PeopleYour operating plan lays down the roadmap that will show how you will convert inputsinto products in a cost-effective manner. It will show you how to most efficiently serveyour customer, or how you can deliver the promised service. If the marketing planfocused on generating the highest possible revenue, the operating plan focuses on
    • Handout for Entrepreneurship 101 P a g e | 137doing the job at the lowest possible cost. The marketing plan and the operating planthus combine to give your business its best chance of generating handsome profits.The operating plan consists of the following sections: Production activities Support activities Capacity planning – the start-up costs Estimating costs –focus on regular, running costs 1. The Components Of The Operating PlanProduction activities. Production activities are the business activities that are directlyrelated to making goods or providing services. Without any one of the productionactivities, your business would not be able to come up with the goods for sale. Production activities relate directly to making goods or providing services.The production activities vary from business to business. But they all have to do withconverting inputs into the product that you deliver or the service you provide. Forexample, a supermarket chain may have the following production activities: - keep items in a warehouse - deliver items to the supermarket branches - repackage items into retail sizes or stock-keeping units - display items on the shelves - accept payment - bag the sold itemsThe example above, however, lists the activities but does not show enough informationlike what the sequence is or who does them. There are better ways to present theinformation. See the production activities of a bakery below.
    • Handout for Entrepreneurship 101 P a g e | 138The diagram above shows the activities and their sequence. When activities are shownin this way, we have what is called a process flow. A process flow represents the steps and sequence needed to make a product.The example below shows how a student should apply for acceptance into a university.
    • Handout for Entrepreneurship 101 P a g e | 139Included in the image above are the people or departments that are responsible for thefunctions. You will also notice the different shapes used to distinguish processes(rectangles), decision points (diamonds) and documents (the one the looks like afolder). When the activities are shown this way, we have what is called a flowchart. A flowchart represents the activities and sequence of a process in symbols.As the examples show, all businesses have production activities. Sets of activities thatproduce a defined output are called processes. These can be illustrated as processflows or flow charts. You will communicate more effectively if you represent theproduction activities of your business in boxes and arrows.STORY FROM REAL LIFEGrocery Gateway delivers groceries to over 40,000 customers in Toronto, Canada butchief executive officer Bill Di Nardo denies he is a grocer. "Were in the logisticsbusiness," he says. "Were the last mile to your door."Grocery Gateway is an online grocery store that is open seven days a week. It hasgood product selection. Its prices are competitive. But its edge really lies in prompt,courteous and accurate delivery.Operations works through new technology and old-fashioned service. Software in thewarehouse groups orders. It allocates portions to different order-pickers. Softwarepasses orders to the truck drivers. It decides when the trucks will leave for whichdestinations.Fifty trucks bring the goods to the homes. Polite service people take off their shoes atthe door. They even unpack the goods, and load the pantry for customers who cant doit themselves.Source: (http://www.visa.ca/smallbusiness/successtories/success.cfm?profile=3)Support activities. There are other activities in business outside of production (ormarketing). They do not produce the goods themselves; instead, they help operationsby ensuring that the production activities function the way they should. We call these
    • Handout for Entrepreneurship 101 P a g e | 140activities support activities. In a supermarket, you will need resources and activitiesto: - track the number of items and their location to meet demand or prevent theft - track performance and health of your production process - train and motivate employees. - keep your production facilities in good working order Activities that ensure, production activities function as intended, are called support activities.In our bakery example, for instance, you will also need resources to do the samefunctions cited above. It is not hard to imagine that support activities are needed inmost types of business. When your business is small and just starting, you as the owneror manager may have to do many of the support activities yourself. As the businessgrows, these functions may be organized as departments such as the managementinformation systems, accounting, human resources, and maintenance departments.Operations will not stop immediately if you delay or neglect some support activities. Butdelay or neglect will have bad consequences over time. If you don‘t take care of yourpeople, for example, they may lose the motivation to work. Worse, they can leave yourcompany. At the same time, it must be clear to you that support activities cannot orshould not exist on their own. Support activities are there to aid production. They existonly so long as they add value to the production process.The table below may clarify the difference between production and support activities inoperations. Production Activities Support Activities Directly related to output Indirectly related to output Occurs in factories, shops, or other Usually centralized at head office delivery venues Localized influence (affects mainly Pervasive influence (affects all the next activity) activities) Costs are largely variable Costs are largely fixed Serving a customer outside the firm Serving a colleague inside the firm. Immediate effects Long-term effects Largely specific to the industry, Generally applies to many maybe even just the company industriesHow much detail do you need in your operating plan? The temptation is great to bevery detailed in this section. You can fall into this trap because the business and theproduct are your ―babies‖ so it is easy to write endlessly about them.
    • Handout for Entrepreneurship 101 P a g e | 141But there is danger in doing so. If you reveal everything there is to know about yourprocess, a reader who is convinced of your business idea may get enough informationto copy your business and compete with you!Add only detail that should be enough to convince the investor that you know how youroperation works, and that you know how to produce the good. Show a process flow.The investor will want to know where his money will go. You need to show whatmachines to put up, what supplies to get, how many people to hire, and so on.What you need not write is information that is proprietary or highly sensitive. Examplesare trade secrets, recipes or formulations, product specifications, and even someprocesses that competitors are likely to copy. Some call it the ―Secret Sauce.‖The line dividing what information to give and what to hold back is not always clear. Itmay help to ask the following questions: Is the information about the only thing thatcan perform a function or satisfy a need? Would it damage your business if theinformation were made public? Positive answers to these questions would point toproprietary information.Finally, there are other ways to demonstrate competence without giving away sensitiveinformation. Show the investor that you: - know the laws and regulations that apply to your business - are a member of associations in your industry - know the suppliers, their prices, terms, and conditions - have done a pilot run or have come up with a prototype - can propose inspection points and measures of qualityCapacity planning. You now have a good idea of the production activities and thesupport activities. The next step is to work out the physical things that your processneeds to produce outputs at the quantity and quality expected by your market. Wherewill you locate your business? What facilities and equipment will it need? How will thefactory, assembly plant, or shop be laid out? What inspection points and qualitymeasures will you have in place?How you come up with answers to the questions posed above fall under the topic calledcapacity planning. Capacity is the highest output your business can produce in agiven period of time. Capacity planning is the process of deciding the productioncapacity to meet the demand for its products. The amount of equipment you need, thelabor you will hire, and the design of your production facility follow the capacity decisionsince they all are based on it.
    • Handout for Entrepreneurship 101 P a g e | 142 Glossary: Capacity planning is the process of deciding the production capacity to meet the demand of a product.What level of demand should you plan to meet? Should you play it safe, and planproduction to meet only the low demand estimate? Should you plan for the high seasonor peak demand? Should you plan for something in between?You need to give the question serious thought: When capacity is different fromdemand, production becomes inefficient. Too much capacity …and your machines orpeople lie idle even as you pay for them. Too little …and you will lose opportunities tosell, maybe even lose customers. The production capacity you will aim for is the onethat minimizes this inefficiency.To meet a possible surge in demand, develop a contingency plan. Study some cases ofproducts that met overwhelming demand, such as Tamagotchi toys of Bandaicorporation (little electronic pets). Think of ways and means to increase production justin case the market wants more of the product, right now.Your best tools for capacity planning are the process flow or flow chart, and themarketing plan. The process flow may tell you what your business needs in terms ofequipment, facilities, furniture, and layout. But the size and scale of operations dependon the volume of sales projected in your marketing plan. Things that are consumed inthe production process such as materials, supplies, labor, and electricity, must all relateclosely to the sales projections.Starting your business is a complex task. The reader of your business plan willappreciate your organization skills better if you lay down the activities in a timeline. Atimeline is a set of related events arranged in sequence according to the times theevents take place. Thus, the output of your capacity plan is a schedule over time ofinvestments, resources, and requirements your business will need to produce at adesired level. A timeline is a set of related events arranged in sequence, according to the times the events take place.There are other tools to improve the efficiency of operations. You may have heardterms like project management, scheduling, just-in-time processing, reengineering oroutsourcing. These tools are beyond the scope of this book but we urge you to look intothem because these tools help you to ensure quality, drive costs down, and staycompetitive.On a final note, expect capacity to be different from demand even with your bestefforts. There are several reasons why this difference is likely. Demand may beseasonal but your operations may have been planned for steady output. It is not alwayseasy to quickly change capacity to meet seasonal demand. It may take time for demandto pick up to your level of planned capacity. And by nature, actual demand is
    • Handout for Entrepreneurship 101 P a g e | 143unpredictable and likely to be different from the estimated demand on which yourcapacity is based. Nonetheless, so long as you keep the goal (minimizing inefficiency) inmind, you should be able to come up with a good capacity plan.Ask yourself What demand should you plan to meet? Should you play it safe, and plan production to meet only the low demand estimate? Should you plan for the high season or peak demand? Should you plan for something in between?Estimating costs. The last part of your operating plan is coming up with costestimates. Costs are amounts of money that have been used towards an activity orthing. Because the money has been used, it is gone and is no longer available forfurther use. What you have instead is the thing you acquired or the activity that wasdone. Glossary Costs are amounts of money that have been used towards an activity or thing.The main goal of a business plan is to obtain funds from investors and outside parties.Expressing equipment, labor, and resources you need in money terms, goes a long wayin achieving the goal of a business plan. You also need to organize the costs so that it isclear to the investor where the money will go, how much is needed, when, and howmuch is the total need.Let us now discuss how to organize and present these costs.One type of operating costs relates to the capacity plan we just discussed. They arecosts associated with setting up or installing the production capacity of a business. Thecosts of building a factory, buying furniture and equipment, or getting a warehouseready for use, are examples. Spending for things at this stage enables your business tobegin operations though you have not as yet begun. These costs are called start-upcosts. They can be quite significant. Nonetheless, these costs are one-time costs. Theydo not recur. Start-up costs are associated with setting up the production capacity of a business.
    • Handout for Entrepreneurship 101 P a g e | 144Once operations start, another set of costs comes in—one that happens again andagain. To run operations, your business will require inputs like raw materials, supplies,rent, labor, and electricity. Let‘s call these costs running costs. Running costs are recurring costs related to inputs to continuing operations.There are a number of differences between start-up and running costs, which is why itpays for you to sort them in the following manner. Below is a table that clarifies thedistinction: Start-up Costs Running CostsNature of cost Largely a fixed amount Amount varies directly with level of productionFrequency and One-time, usually at the Recurring or happens oftentiming beginningRecovery rate Recovered through profits Recovered as products are over time soldFunding need Fund entire amount Fund only the level that stays in the business at a point in timeThe table above is largely self-explanatory except for the funding need of running costs.Why do you need to fund only the costs that stay in the business? Well, it‘s becausethey ―get trapped‖ in the business, and they don‘t ever get out. Let‘s do an example toget the point across.One typical running cost is the cost of materials used to make a product. As you makea product, you will spend for materials. You do not recover the expense until theproduct is sold and the customer pays. A time will come when the customer does pay.But even before the payment arrives, you need to spend some money to buy rawmaterials again, to keep operations running. So there is always a level of raw materialthat stays in the cycle. Money is continually invested in production. Put another way,money is ―trapped‖ in these materials for quite a long time. You will have to financethis investment just like you financed start-up costs.What is true for materials is also true for other running costs. When resources are paidfor and not yet recovered through sales, you will need to spend money on them. Asidefrom your investment in raw materials, add your investment in office supplies, factorysupplies, and rent, in estimating costs.
    • Handout for Entrepreneurship 101 P a g e | 145Earlier, in the capacity plan, it was suggested that you lay down the neededinvestments and resources on a timeline. Once done, the start-up costs can be assignedto these investments and resources. The running costs can be scheduled at the timeyou expect operations to begin.Scheduling the different costs to the times you need them is likely to make your requestfor funding more acceptable to the investor. The investor may not have today the totalfunds needed. But if you spread out the cash requirements over months, he canprovide portion after portion of cash. Under this method of releasing funds in line withthe timeline, the investor gets better assurance that the money will go to its intendedpurpose.A final output of your cost estimates is the unit cost, the cost to produce one productor one specific service. It may not be easy to come up with unit costs if you havedifferent products and different types of costs. Seek the help of accountants. Theylearn this skill in a subject called cost accounting. They can break down the differentcosts to a point where the cost per unit output can be estimated with precision. Unit cost is the total cost to produce one unit of a product or service.The unit cost is helpful in pricing your product since the price must recover the cost.Sometimes, too, price is based on cost.Ask yourself Should my small business hire an accountant? Should I just hire a part-time accountant? Should I just buy a software package that will do the accounting for me? Should I just hire a company to send a worker everyday, to do the accounting for me?ConclusionOne good way to look at the operating plan is to ―work backwards‖ when developing it.The endpoint of operations should meet customer demand. Customer demand dictatesthe product. The product determines the scale of activities (small or large?). The scaleof activities determines capacity (one thousand units per month or one million?).Capacity determines the physical needs of your business (Long-and-tall factory? wide-and-short warehouse?). The physical needs determine the costs. This kind of thinkinghelps ensure that your operations are geared to meet customer demand.Work through the operating plan in a careful and detailed fashion. Doing so will givethe investor the confidence that you have the ability to execute your business idea.
    • Handout for Entrepreneurship 101 P a g e | 146The best part is that you now have a convenient list of what needs to be done--andwhen--to make your business a reality.Your marketing plan had determined the sales volume and selling price. The operatingplan now determines the start-up and running costs. In the next session, we turn tothe financial plan. The financial plan puts all of this information together to come upwith the amount that you will request from the investor.Points To Remember 1. Your operating plan lays down the roadmap that will show how you will convert inputs into products in a cost-effective manner. 2. The operating plan consists of the following sections: Production activities Support activities Capacity planning – the start-up costs Estimating costs –focus on regular, running costs 3. The marketing plan should determine the operations plan. By having marketing as the driver of the enterprise, you ensure that your product and the activities that create it are aligned with the needs of the customer. 4. Production activities are the business activities that are directly related to making goods or providing services. 5. A process-flow diagram is a visual representation of the steps and sequence required to make a product. 6. A flow chart is the activities and sequence of a process represented in symbols. 7. Support activities are there to aid production. They add value to the production process. 8. Capacity planning means to schedule over time, the investments and resources you business will need to produce at a desired level. 9. When capacity is different from demand, production results in inefficiency. Too much capacity and your machines or people lie idle even as you pay for them. Too little …and you will lose opportunities to sell, maybe even lose customers. 10. Start-up costs are costs associated with setting up the production capacity of a business.
    • Handout for Entrepreneurship 101 P a g e | 147 11. To run operations, your business will require inputs like raw materials, supplies, rent, labor and electricity. These are the running costs.GlossaryOperations: The set of activities that convert inputs into outputs. Inputs are the resources used by your business such as materials, labor, and machines. Outputs are the goods you produce or the services you provide.Production activities: Business activities that relate directly to making goods or providing services.Process flow: A visual representation of the steps and sequence required to make a product. The steps are normally limited to production activities.Flowchart: The activities and sequence of a process represented in symbols. Each step in the process is shown as a symbol with a short description of the step. The symbols are linked together with arrows to show the proper sequence of the activities.Support activities: Activities that help production activities to function as intended though they do not produce the goods themselves.Capacity planning: The process of deciding the production capacity to meet the demand for the products of a business.Start-up costs: Costs associated with putting up the production capacity of a business. These costs enable your business to begin operations though you have not done so yet.Running costs: Recurring costs associated with inputs to continuing operations.Unit Cost: The total cost to produce one unit of a product or service.Review Questions 1. What is the goal of an operating plan? 2. What are the sections of an operating plan? 3. Should marketing determine operations or the other way around? Why? 4. What is a production activity? 5. What is a process flow? 6. What is a flow chart? 7. What happens when support activities are neglected? 8. What is the output of capacity planning?
    • Handout for Entrepreneurship 101 P a g e | 148 9. What happens when there is too much (or too little) capacity compared to demand? 10. Why can demand still be different from capacity despite careful planning? 11. How are start-up costs different from running costs?Questions for Discussion 1. Support activities are easy to ignore or put off because their effect is not immediate. But there are serious long-term consequences if support activities continue to be ignored. Think through what the consequences would be if you ignore each of the following support activities: training, maintenance of equipment, record-keeping. 2. Think of a business you or your group would like to put up. In terms of operations, what information would you give to the investor? What information would you hold back? Be specific. 3. We have pointed out the need to hold back certain information in the operating plan. No such caution was stressed in the marketing plan. Why do you think this is the case? 4. The suggested approach in capacity planning is to scale production to meet demand. In reality, capacity is often based on available funds. If you do not have the money, you have no choice but to start small. Is this a reasonable approach to capacity planning? Why or why not?Learning From The InternetTo know more about the operations management:http://managementhelp.org/ops_mgnt/ops_mgnt.htmhttp://www.smetoolkit.org/smetoolkit/en/category/961/Procurement-Inventory-and-ProductionTo know more about the operating plan:http://blog.networksolutions.com/2009/scaling-to-win-the-operations-plan-part-12-of-the-2009-business-plan-seriesCASE STUDY: ZARAIn March 2006, ZARA took over H&M as Europe‘s biggest fashion retailer. It offersclothes similar to the latest designer outfits at a low price. The group that owns it hasover 3000 stores in 70 countries, about 32,000 employees, 200 designers, and 20,000items of inventory.
    • Handout for Entrepreneurship 101 P a g e | 149Despite its size, ZARA takes just fifteen days to get from design board to store shelves.New designs are offered in stores twice a week. Inventories are kept low.It was not always this way. When it opened its first store in Spain in 1975, low-cost yettrendy clothes proved to be a winning formula. However, it took six months to design,produce, and deliver such clothes. Things needed speeding up if goods were to remainfashionable and in demand.A new production model that kept a tight control on production was set up in 1984. In-house designers come up with items based on popular fashion. Trendy, high fashionitems are made in Spain by the firm‘s own factories. These make up about half ofZARA‘s sales. Basic items are outsourced to low-cost countries. Technology is used tospeed up production, warehousing, and logistics. All activities are coordinated from itsheadquarters. ZARA continues to look for ways to improve operations.Source: http://joeg.oxfordjournals.orgCase Analysis 1. Would you say that ZARA is very successful? What facts in the case tell you this? 2. Many other successful fashion retailers outsource production to countries where labor cost is low rather than producing the items themselves. ZARA produces 50% of its sales with its own facilities. Why did ZARA do this? What are the pros and cons of this strategy? 3. What is your own view of using operations as the main means to compete in an industry like fashion retailing? Will you buy clothes just because the company that sells them is efficient?EXERCISES FOR SESSION 7: THE OPERATING PLANAnswer these questions in the space provided: 1. What is the goal of an operating plan? _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ 2. What are the sections in an operating plan? _________________________________________________________________
    • Handout for Entrepreneurship 101 P a g e | 150 _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________3. Should marketing determine operations or the other way around? Why? _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________4. What is a production activity? _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________5. What is a process flow? _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________6. What is a flow chart? _________________________________________________________________
    • Handout for Entrepreneurship 101 P a g e | 151 _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________7. What happens when support activities are neglected? _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________8. What is the output of capacity planning? _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________9. What happens when there is too much (or too little) capacity compared to demand? _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________10. Why can demand still be different from capacity, despite careful planning? _________________________________________________________________ _________________________________________________________________
    • Handout for Entrepreneurship 101 P a g e | 152 _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ 11. How are start-up costs different from running costs? _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________Exercises and Activities 1. Visit a factory, or a shop, or a store. Afterwards, draw their production activities (or service activities) as a process flow. 2. Go to a website on production planning. Prepare a report on the different shapes in a flowchart.
    • Handout for Entrepreneurship 101 P a g e | 153 SESSION 8: THE FINANCIAL PLANOverview. In the last three sessions, we discussed the parts of a business plan. Wenow integrate all of these parts and express them in money terms in the financial plan.In this session, we take a close look at risks, how to measure them, and express them.We relate risk to the rewards of a business. We find ways to evaluate if the business is―worth the risk‖ or ―worth the trouble.‖Sections:1. Cash BudgetsTime Frame or Period of a Cash BudgetCash InflowsCash OutflowsFinancing Section2. What you can learn from the Cash Budget:I Need this much External FundingNow, I can see the Reward or Return of the Business Payback period. Internal Rate of Return. Net present value.3. Measuring RisksRequired rate of return.Break-even PointInternal Rate of Return.Sensitivities: what if…Learning ObjectivesAt the end of this session, the student should be able to: Define a financial plan and discuss its importance to an investor State the goals of a financial plan Discuss ways to set up the time frame for a cash budget Distinguish variable costs from fixed costs Explain how a cash budget helps determine the funding need Discuss measures of return of an investment Discuss the required rate of return, break-even analysis, and sensitivity analysis as measures of risk
    • Handout for Entrepreneurship 101 P a g e | 154STORY FROM REAL LIFEMs. Yong Suk Daley, a Korean-American, opened a clothing-alteration shop inSpringboro, Ohio, in 2000 and operated it successfully. Business slowed down in 2005.She renovated her business in 2006 and called it, ―Young‘s Special Occasion Apparel.‖She refocused on altering and fixing clothes for special occasions like weddings, wherethe consumer budgets are bigger. The purchase of her inventory and display wasfinanced with her personal credit cards.In August 2006, Ms. Yong finally got a business coach who helped her develop a properbusiness plan. She prepared a cash budget as part of an application for a loan, tosupplant the credit card debt. She strengthened recordkeeping and financialmanagement. She improved the marketing plan. A loan was finally granted to her inOctober 2006. Because of the loan, she no longer had to use her credit card to financeinventory.(Source: www.score.com)IntroductionIf numbers were a language—and many would argue that they are—then the financialplan is the future story of your business, told in the language of numbers or money. Itis your marketing plan, your operating plan, your strategy laid out in riyals and halalas. Glossary: A financial plan is your business plan, expressed in numbers.
    • Handout for Entrepreneurship 101 P a g e | 155Why the need to tell the story of your business in this way? We do not want to simplytell the business story again using mere words. We want to use numbers now.Bear in mind that forecasts in your financial plan may be filled with errors and too muchoptimism. This principle will be reflected in our use of numbers. We will make allowancefor possible error. Rather than use specific whole numbers like ten or fifteen, it is wiseto use a ―range‖ such as ―ten to fifteen‖. Yes, a range sounds imprecise, but it is muchbetter than giving an exact number, when you honestly do not know, what the futureholds.It is also acceptable to express costs as a percentage of sales. (Example: cost of goodsis normally 60% of sales in this industry, but I have a plan to reduce cost of goods tojust 30% of sales. Here is how….)The use of numbers makes our presentation more concrete, more colorful, and moredetailed. We stop using the phrase ―more or less‖ or ―rough estimate‖.A clear and specific financial plan is important for a number of reasons:First, the financial plan is a convenient summary of all the components of yourbusiness plan. It is like an executive summary that is expressed in money terms. Youcan now express how high the start-up costs will be, how much the new factory willcost, what sort of working capital will be required.Second, the financial plan quantifies all of your plans into measurable units ofmoney. Translating plans into numbers allows you to do arithmetic operations andcome up with meaningful information, such as the total investment required this year,how much will be in fixed assets, how much in working capital, and how big are salaryexpenses versus raw material costs.Third and perhaps most important: the financial plan shows the rewards.(―Show me the money!‖ was the motto of a professional football player in oneHollywood movie.) Investors are comfortable talking in terms of money, for theyactively seek to make their money grow. Money is a language they understand andappreciate. If you can speak the investors‘ language and address their aspirations, yourfinancial plan may persuade them to fund your business.Your financial plan has three goals: 1. To demonstrate the need for funds. Any investor would like to know how much is needed and where it will go. It is your job to show that his money will be used wisely and well. 2. To demonstrate the reward or return of a business. Your business is not a charity (donation to a worthy cause). For someone to provide funds, you must show
    • Handout for Entrepreneurship 101 P a g e | 156 that the business is attractive—that it will return the capital and give a decent return on the capital—in exchange for the risks assumed. 3. To measure financial risks. Risks drive rewards. Show the investor your deep understanding of the business by being open about the risks and their likely effects on your business. He will feel better about the venture if you have a plan for coping with the possible problems that may come up.To address these goals, your financial plan will have three components: - the cash budgets - the conclusions reached from the cash budgets - ways to measure risk.1. Cash BudgetsSTORY IN REAL LIFEUse a cash-flow statement from the very start. For young entrepreneur Welti, it was thedifference between opening a pet store—his original plan—and a pet-sitting service.Because he loves animals, Welti thought it would be fun to start a pet shop. However, aquick check of the costs to open and operate a store made him look for other options.While a pet-sitting business would definitely be less expensive to operate than a petshop, he knew there would be some start-up costs as well as monthly expenses. Weltipaid his start-up costs with his savings, but only after his cash flow forecast gave himan idea of how and when he might recover his costs.Budgets are also called projections or forecasts. These terms express the future ofyour business in money terms, and can be used interchangeably.
    • Handout for Entrepreneurship 101 P a g e | 157 Glossary: A cash budget tracks the expected cash flows over a future time frameA cash budget tracks the expected flow of cash as it comes into, and goes out of, yourbusiness over a future time frame. We focus specifically on cash, because cash is whatyou are asking from investors now. Cash is what you will return to them at the end ofthe process.The cash budget is valuable because it will lead you to the amount you need to carryout the business plan. This amount will in turn lead you to the amount you will ask frominvestors. Finally, the cash budget will show how attractive your business is in terms ofthe reward it will offer investors.A basic outline for a cash budget looks like the one below. You will encounter a termcalled terminal value, which refers to the future value of your entire business. Terminalvalue is the forecast value of your business at the end of a specified period. You maythink of it, as the price that some buyer would be willing to pay for your cash-generating enterprise, on the fifth year. (Don‘t be surprised. There are people who notonly buy products; they even buy the whole company that makes the products, for theinvestment value.)
    • Handout for Entrepreneurship 101 P a g e | 158Sample Template for a Cash Budget Year Year Year Year Year 1 2 3 4 5Beginning CashCash In Collections from sales Terminal Value Total cash inCash Out Payments for purchases Other operating payments Total cash outFinancing:Net Cash FlowEnding Cash before FinancingExternal Funding Needed/ PaidEnding Cash after FinancingNote that the cash budget covers a given time frame or period. It has a “Cash In”section, a ―Cash Out‖ section and a ―Financing‖ section that later points out the―External Funding Needed‖. Let‘s discuss each section in turn.Time frame of a cash budget. How long should the time frame of a cash budget be?It depends on how you want to establish the rewards of the business.Your venture will need funds at the start. If this were the only goal, the time frame ofyour cash budget would be very short. There is, however, the other goal of establishingthe rewards of the business. This is the goal that determines the time frame.The ―business‖ may involve only a ―specific project with a definite time frame.‖Suppose you are running a three-month promotion campaign. That‘s your project. Youhope that it would be profitable. You look upon this promotion campaign as a business.If this business needs some outside funding, you need to develop a cash budget tocover the three months in question. It must also show that the campaign is anattractive opportunity within that time frame.
    • Handout for Entrepreneurship 101 P a g e | 159More typically, a business is set up to be a ―going concern.‖ A going concern is abusiness that is assumed to operate well into the distant future. There is no artificialtime limit. If such is the case for your venture, does this mean that the time frame ofyour cash budget must be very long? It could be, but it need not be.A practical solution to the time frame problem of a going concern is to assume aterminal value. The terminal value is the forecast value of your business at the end ofa specified period. For example, if you calculate a terminal value for your business onthe fifth year of operation, it would mean that your cash budget would cover only fiveyears. Glossary: Terminal value is the forecast value of your business at the end of a given period.A final way to determine the time frame is to ask the investor (the provider of funds):dear sir, when would you like to get your money back? Do you need your capital backin five years? If so, I would arrange a transaction for you on the fifth year. The timeframe of the investor can be the time frame of the cash budget. Five years is areasonable time frame.The selected time frame can be broken up into smaller periods of one year or sixmonths. Finer divisions of time than this can be unwieldy and may be more fiction thanreality. For example, a time frame of five years, broken up into months, would meansixty month-by-month projections! (Can you honestly make accurate predictions foreach month of your future operations? Not even the yearly projections are likely to befulfilled on the dot. There will always be some variation or margin of error.)Cash inflows 1. Cash from customers. Over the specified period, where will cash come from? When will the cash inflow happen? The main, regular, and obvious source of cash is the cash generated as your business sells products and services to customers. Your marketing plan will provide the sales information that you will then convert into cash inflows. (Sales value = units sold x unit price.)
    • Handout for Entrepreneurship 101 P a g e | 160 2. Cash from investors. Then there is the initial investment into the business that will come from your pocket, from friends and family, and from outside investors. This cash inflow must be defined, since the ―initial investment‖ is an input at the start of the business. (The initial investment consists of: your money and other people‘s money. All you know at the start is the money that you have. You have to find out, via calculations, how much more money you need to raise.) Do the calculations for the cash budget to determine the amount the business needs from internal sources and from external sources. Next, you write this amount at the very start of the cash budget to represent the initial investment that is required. 3. Cash from hypothetical sale of the business. At the end of the period, there should be a terminal value: which would represent a big inflow of cash. There are a number of ways to calculate a terminal value. You can: - Assume that at some future time, everything that the business owns is sold. The amount left over, after all obligations are paid, is the terminal value. - Obtain a single value to represent all future earnings beyond some future time. (This concept is called the present value. This concept is taught in courses on investments or financial management). - Obtain a comparable amount. Would you know the price of a similar business that an investor offered to buy or was sold recently? That would be the comparable amount. (It is like comparing a house, or a car, to another house or car, that was sold recently. The recent transaction‘s value indicates a fair price for the comparable item that is being valued.)There may be other sources of cash inflows but collections from selling activities, theterminal value, and the initial investment are key amounts. To summarize: Type of cash Timing Amount inflowCash from Sales Regular, every Selling price x Units sold. Get period information from the marketing planInitial Investment Start of period Derived at the end of the whole exercise of planning the cash budget.Terminal Value End of the period Owners‘ share of the business; present value of future income; could be based on comparable transactions 4. Amount and timing. Remember that the focus of the cash budget is the amount and timing of cash flows. Let us use cash from customers as an
    • Handout for Entrepreneurship 101 P a g e | 161 example. Cash from customers is different from the sales amount. When you sell an item at a set price, you have a sales amount, also called gross revenue. But the amount of cash inflow may be less than gross revenue, since some customers may not pay in full. Some customers pay by installment. Some customers pay after many weeks. Extending credit to customers delays the timing of the cash inflow. The cash budget reflects your best guess on the amount and timing of these cash inflows.Cash Outflows. Over the specified period, where will cash go, and when will the cashoutflow happen? The simple answer is that all (outward) payments are included in thissection of the cash budget. The amount and timing of these payments come from themarketing and operations plans. A better answer involves studying the behavior ofthese payments. We now turn to this topic. Glossary: Costs that change with the number of units sold are called variable costs. 1. Variable costs. Cash outflows or costs may be sorted into variable and fixed costs. Variable costs change or vary with the number of units sold. The more you sell, the higher your variable costs will be. Raw materials and labor used in production are examples of variable costs. Because of their relation to sales, variable costs are usually expressed as a percent of sales. 2. Working capital. One important variable cost that is missed often is working capital, the amount needed to support day-to-day operations. Common sense will tell you that as your business grows, cash will be tied up in the form of goods for sale and more credit extended to customers. (This means that the goods were sold today, but the cash payment may reach you one month from now, perhaps evenly divided over three months.) Your cash will take long to come back. Meanwhile, you still need cash for day-to-day operations. So, you need additional working capital. The amount you need depends on the growth of sales, the time it takes to sell your goods, and the time it takes to collect from customers. As with other variable costs, the calculation can be also be simplified to a percent of sales.
    • Handout for Entrepreneurship 101 P a g e | 162 Glossary: Costs that do not change over a wide range of sales volume are called fixed costs. 3. Fixed costs. By contrast, fixed costs do not change with the number of units sold. The amount remains constant for a wide range of sales volumes, or constant for a time period. 4. Recurring. Some fixed costs recur. They happen every sub-period and are therefore budgeted in every sub-period. Examples are office space rental, the salaries of managers, advertising, and insurance. 5. One-time. Other fixed costs are one-time lumpy amounts. Building a factory, or buying delivery trucks, are examples of such fixed costs. Your plans of paying for these items, determine the timing of these fixed costs.To summarize:Types of cash flowsType of cash Timing AmountoutflowWorking Capital Regular, every A percent of sales periodOther variable costs Regular, every A percent of sales. periodRecurring fixed Regular, every A fixed amount per period, derivedcosts period from your marketing and operating plansOne-time fixed Irregular A fixed amount, at the start,costs derived from your marketing and operating plansFrom the table, the reasons behind grouping costs into variable costs and fixed costsbecome clear. Variable costs are easy to project; they are just a percent of sales. Fixedcosts remain unchanged. Grouping in this manner communicates the nature of costs toknowledgeable investors without having to explain further. The distinction also helpsyou manage your business better, a topic for a later session.Financing Section. The financing section of a cash budget is easy to complete as it isjust a matter of arithmetic. Yet, it is the most important section, for it addresses two ofthe goals of a financial plan: (1) determining the external funding needed by thebusiness and (2) determining the reward or return of the business.
    • Handout for Entrepreneurship 101 P a g e | 163 1. Minimum operating cash. To understand this section, we first need to discuss why cash needs to be kept to the minimum that you need for operations. Any business needs cash to operate from day to day. Cash facilitates transactions. Your business will need cash to make payments. It will need to maintain cash in the checking account, as well as petty cash at the office for small items. Having too much cash on hand, does not add value to your business. It may even harm it. Cash is an idle asset. A checking account does not usually earn interest. For a small shop, having too much petty cash around may even invite petty theft. Your business should maintain only the level of cash it needs to operate and no more. Let‘s call this the minimum operating cash Level. Glossary:The minimum operating cash level is the least amount of cash a business needs to operate. Cash is either money in a bank checking account or currency notes. 2. Template or Format. We now are ready to discuss the financing section of the cash budget. The cash budget is presented below with the other sections compressed so as to highlight the financing section.
    • Handout for Entrepreneurship 101 P a g e | 164 Sample Template for a Cash Budget Year 1 Year 2 Year 3 Year 4 Year 5a. Beginning Cash Cash In Cash Out Financing:b. Net Cash Flowc. Ending Cash before Financingd. External Funding Needed/ Paide. Ending Cash after FinancingThe calculation and brief explanations of the items coded (a) to (e) are: (a) Beginning Cash = cash at the beginning of the sub-period. The amount is zero in year 1 for start-ups. Thereafter, beginning cash is the ending cash after financing (e) of the previous sub-period (b) Net Cash Flow = Cash In less Cash Out of the sub-period. The Net Cash Flow is the summary effect of business activities on cash. Did operations raise cash or use up cash in the sub-period? (c) Ending Cash before Financing = Beginning cash (a) + Net Cash Flow (b). This shows the cash balance before external financing at the end of a sub-period. (d) External Funding Needed or Paid = The adjustment needed to bring the ending cash to the desired minimum operating cash (MOC) level. If the ending cash before financing (c) is less than MOC, external funding is needed. If the (c) is higher than MOC, external funding or bank loans may be paid back. (e) Ending Cash after Financing = MOC. Since the external funding needed or paid (d) is an adjustment to bring cash to MOC, then ideally (e) should equal MOC. Example: Assume that the minimum operating cash level should be 100. Assume that your beginning cash level is 120. Net cash flow is -180. Thus, your ending cash before financing = -60 (which is 120 -180). At negative 60, you are below the stated MOC level of 100. You will need 40 to bring up your cash level to 100. Once you reach 100, you are safely at the MOC level.Recall that the financing section addresses the first two goals of a financial plan—determining the external funding needed by the business and determining the rewardor return of the business. We will now see how the cash budget helps in achievingthese goals.
    • Handout for Entrepreneurship 101 P a g e | 165Ask Yourself Am I going to be as diligent as necessary to make the detailed forecasts and calculations? If I have no idea how to forecast the sales of a certain business, will I make the effort to interview a knowledgeable person, or a practical businessman, to get the information? Can I develop expertise in running electronic spreadsheets to make the calculations?2. What You Can Learn From The Cash BudgetSTORY IN REAL LIFEMs. Hasina Jahan owns a small business in Bangladesh that makes mattresses fromnatural materials. She started small. Customer demand grew quickly. Hasina realizedthat she could not meet demand from her own resources and would have to borrowfrom a bank.Hasina had previously heard about a bank that provides loans to small and mediumenterprises. She went to the bank and spoke to a loan officer, who requested that sheprovide certain financial documents and a business plan. With the help of a non-government organization, Hasina came up with the documents the bank required.Shortly thereafter, the bank granted Hasina the loan she needed. The loan proved tobe a big help. Now, Hasina is ready to apply for larger loans when she needs them.„I need this much external funding‟. For most new businesses, the first years areyears of investment and hard work with little to show for it. We see this in the cashbudget as negative net cash flows in the first years. If the beginning cash balance issmall, a negative net cash flow will lead to a smaller, even negative, ending cashbalance. External funds will then be required to bring the amount back to minimumoperating cash-level in the sub-period.Take a close look at the format of the cash budget because it sends a message. Puttingthe external funding at the bottom tells the investor a couple of things: - The format implies that all internal sources of cash have been exhausted before you approached the investor for funding. This assures the investor that his funds will be used for the business. Where exactly? The ―cash out‖ section will explain where the funds will go.
    • Handout for Entrepreneurship 101 P a g e | 166 - The format shows that you are asking only for funds that you really need. Since the funding that you request will bring the cash balance only to minimum operating cash level, the investor is assured that only the necessary funds shall be raised. Money is not to be wasted.The discipline imposed by the cash budget format tells the investor that you, theentrepreneur, have exercised prudence, care, and focus, in planning your business.Negative net cash flows can persist for a number of years. It may take time before yourbusiness turns in profits and before profits turn to cash. External funding will then berequired during those years. The total of (d) is the total external funding your businesswill need.The total external funding we just discussed will not be the amount you will ask frominvestors. If it were, the investor would end up owning the business! Remember: thisbusiness is yours. You must remain the majority owner. You want to maintain control ofit. In money terms alone, control is achieved if more than 50% of the funding requiredcomes from you and people allied to you (e.g., friends and family). The remainingbalance can then come from outside investors. While there are exceptions to this rule, itis important that you keep control of business operations. Ask a lawyer for the rules oncontrol over an enterprise.„Now, I can see the reward or return of the business.‟ While your business maystart out with negative cash flows, it must eventually break even and begin to generatecash for you and your investors. It has to. Otherwise, why would the investor, or youfor that matter, invest? Why even go into business at all, for a money-losing venture?(We hereby assume that profit is the primary measure of an attractive business. Wegive some importance, but lower priority, to the social impact of the business, such asthe jobs it generates.)The rewards of your business are seen in the cash budget through positive net cashflows and in a large, positive, terminal value. The cash budget allows us to visualize theamounts. Next question: are they attractive enough? How do we evaluate theattractiveness of the returns of a business? The question is important to both you andthe investor because you both are in business to obtain a decent return. Payback period is the time it takes for an investment to be fully recovered.Payback period. One simple way to assess reward is the payback period. If theinvestor puts in a certain sum at the start of the business, he will want to know whenhe will get that amount back. The payback period is the time it will take for thebusiness to fully recover or pay back the initial investment. Shorter payback periods
    • Handout for Entrepreneurship 101 P a g e | 167represent more attractive businesses. (We assume that the investor is impatient andthat he does not want to wait too long.)The payback period is a quick way of evaluating reward. But it has its flaws. The―payback-period‖ method does not account for the time value of money. Money today isnot the same as money tomorrow (but the payback period method thinks they are).Also, the payback-period method does not account for the pattern of rewards. Forinstance, would you prefer a short payback with little or no returns thereafter or a longpayback with large rewards long after the payback period?Pros and cons of payback-period calculationPros Cons The payback period is a quick The payback period does not way of evaluating reward. account for the time value of It is easy to use. money. Payback period does not account for the pattern of rewards, whether short or long payback. The internal rate of return is the rate that equates the cash inflows to the cash outflows.Internal Rate of Return. A better method is to compute the so-called internal rateof return or IRR. The IRR is the percentage rate that equates the cash outflows andcash inflows. The rate is then compared with the rate that you or the investor requires.An IRR higher than the required rate means the venture is attractive.For example, if the business generates a certain amount of cash outflows and inflows.The rate of return on the outflows, as evidenced by the strong inflows, may bemeasured at 22%. You then compare 22% with the rate that the investor requires,which could be 16%. As long as the internal rate of return is higher than 16%, theventure is attractive.
    • Handout for Entrepreneurship 101 P a g e | 168 Net present value is today’s value of future cash flows minus the initial investment.Net present value. The method most preferred by investors is the net presentvalue or NPV. NPV is today‘s value of future cash flows minus the initial investment.The rate used to convert future cash flows to today‘s value is the rate you or theinvestor requires. A business with positive NPV is attractive.The mathematics of IRR and NPV are discussed in finance books. It is enough for us tonote here that given the cash budget and the required rate, both IRR and NPV can becomputed. Your instructor may show you an example in MS excel.Ask Yourself Can I test my level of prudence by acting responsibly after careful thought and planning? Do I make the effort to exercise great care in calculating the budget using realistic numbers? Am I focused in planning out the business, or am I dismayed by the effort involved to research the requirements of this particular business?
    • Handout for Entrepreneurship 101 P a g e | 169Math example for NPV, RRR, IRR at www.groups.google.com/group/entrep101class. Factory ONE 2009 2010 2011 2012 2013 2014 NPV IRR at 15% % Investment -250 0 0 0 0 0Projected Net Cash Flow see below for three scenariosInvestment Returns for two projects, both requiring 250 million of currencyProject A has cash flows ranging from 80 to 200.Net Present Value is calculated at 120, using a discount rate of 15%. IRR is 33%. Project A Year 0 Year 1 Year 2 Year 3 Year 4 Year 5 NPV IRR Cash flows -250 80 90 100 150 200 120 33%Project B has cash flows ranging from 200 to 80.Net Present Value is calculated at 169, using a discount rate of 15%. IRR is 53%. Project B Year 0 Year 1 Year 2 Year 3 Year 4 Year 5 NPV IRR Cash flows -250 200 150 100 90 80 169 53%Project C has cash flows ranging from 100 to 200.Net Present Value is calculated at 175, using a discount rate of 15%. IRR is 42%. Plan C: Year 0 Year 1 Year 2 Year 3 Year 4 Year 5 NPV IRR Cash flows -250 100 150 100 150 200 175 42%A discount rate of 15% assumes a cost of money of 15%.You can use the 15% as the discount rate in the Net Present Value calculation.to find out if the sum of the outflows and the inflows, discounted to the present, is a positive Number.The 15% can be called the REQUIRED RATE OF RETURN, or the hurdle rate.
    • Handout for Entrepreneurship 101 P a g e | 1703. Measuring Risks No one ever goes bankrupt in the projections.The cash budget you make represents your best guess of how the business willperform. It may be an educated guess, but it is nonetheless just a guess. More oftenthan not, projections for sales will be too optimistic. Even with the right intentions,entrepreneurs may simply not allow for unexpected expenses or lower-than-predictedsales.Investors also realize that projections are just estimates. They also know that you cometo them for funding, so you need to make the projections look impressive. They arelikely to think that your sales projections will be on the high side.The discussion above suggests that we need to go beyond our initial cash budget to geta better sense of risk. Things that you have not considered can and will happen. Howdo we deal with the unknown in our forecasts?Required rate of return. One measure of risk is the required rate of return or ―RRR.‖The RRR is the minimum reward a business must provide for an investor to invest in it.It is expressed as a percentage. It reflects the risks of the business. The riskier theinvestment opportunity, the higher the RRR.IRR and NPV, the measures we use to assess the attractiveness of a business, includeRRR in their calculation, so IRR and NPV already account for risk.Two other tools that address risk are the break-even point and sensitivities. Both toolsuse the fixed cost/variable cost grouping introduced earlier so you might want to reviewthese concepts before proceeding. Glossary: The breakeven point is the sales volume when profits are zero.
    • Handout for Entrepreneurship 101 P a g e | 171Break-even point. The breakeven point or BEP is the number of units your businessmust sell to merely cover all its costs or ―break even‖. By definition, profit at BEP iszero. It is computed as: Fixed costsBreak-Even Point = (Selling Price of one unit – Variable Cost of one unit)When your business falls below BEP, it is not profitable.If your product is selling fast, you may be able to compute the estimated month ofoperation, when you might achieve the break-even point.Once your unit sales are above BEP, you can start to celebrate. You become profitable at that point. It‘s not always so easy. Your business may not reach BEP in its first years of operation as it struggles to be known and have its products accepted by the market.Sensitivity analyis. Sensitivity analysis is a widely-used method to analyze risk.Sensitivities ask ―what if‖ questions to find out the effects that result from alteringkey items in the cash budget. Example: If I change a number in the cash budget fromseven to eight, will the financial results be ―sensitive‖ to the change, or ―insensitive‖? Ifthey react to the change, then there is a sensitivity. If there is no reaction, then thefinancial results are insensitive to the change. Sensitivity analysis: A way of producing forecasts that differ from the original forecast because one or several variables are changed. Sensitivities are used to find out the effects of a change in one variable on the financials. Your cash budget represents just one of many possibilities for the future. It may be the most likely possibility at the time you made it. But this does not mean that things will play out exactly as you predict. The actual outcome is likely to depart from the projection simply because there is just too many unknowns to allow you to arrive at precise forecasts.
    • Handout for Entrepreneurship 101 P a g e | 172Rather than trying to be ever more precise in your forecast, a better approach is topresent several cash budgets. This is the idea behind sensitivities. (Sensitivity analysisallows you to show the effect on total sales of a higher or lower expense on advertising.Sometimes, a little advertising can boost sales tremendously, if sales is sensitive toadvertising. You could use this estimate to prepare an optimistic scenario.)In the end, it would be wise for you to present an optimistic and a pessimistic scenario.You may also call them a best-case scenario and a worst-case scenario. Do this byassuming higher or lower sales, higher or lower costs, etc.Sales figures are very often the items changed in sensitivities. Many variable items aredetermined by sales. So it stands to reason that this item be examined closely. Howwould your cash budget look like if sales increased by, say, 10%? Or decreased by20%? What would happen if you increase the selling price? What would happen if rawmaterial costs rise 15% due to scarcity?The answers to these ―what if‖ questions may not be as straightforward as you think.For instance, a higher sales forecast may mean more internal cash generated earlier in time, reducing the need for external funds. Or it could mean even more external funding is needed to support greater business activity.One little change could have multiple effects on various parts of the business. Forexample, one dollar of hypothetical change in sales might mean two dollars ofhypothetical effects on another item, such as ―working capital required.‖Businesses are complex. You need to work through the numbers to find out the finaleffects. (Ultimately, there is only one way to test the theory: run the business andwatch the actual numbers.)Sensitivity analysis can be tedious if done manually. Fortunately, there are softwarethat can come up with new cash budgets with just a few clicks on a computer screen.Ask Yourself Will I make the effort to open a financial management textbook to learn the proper formulas for these return calculations? Do I resolve to be creative in developing alternative scenarios for the best-case and worst-case outcomes for my business?
    • Handout for Entrepreneurship 101 P a g e | 173ConclusionThe financial plan is the future story of your business, told in the language of numbersor money. It is your marketing plan, your operating plan, your strategy laid out in realmoney. It tells the story of your business using numbers.The financial plan is a convenient summary of all the components of your business plan.It expresses how high the start-up costs will be, how much the new factory will cost,and what sort of working capital will be required.The financial plan also shows the rewards. It shows how much the investors moneycan grow.To address these goals, your financial plan needs to prepare a cash budget.Cash budget should write about the expected fixed costs and variable costs. From thecash budget, it will be made clear how much more external funding will be neededaside from the initial start-up money, which the entrepreneur can raise on his own.The final part of the financial plans is the discussion of risks and rewards.Points To Remember 1. The financial plan is the future story of your business, told in the language of numbers or money. It tells the story of your business using numbers. 2. The financial plan is a convenient summary of all the components of your business plan. It expresses how high the start-up costs will be, how much the new factory will cost, and what sort of working capital will be required. 3. The financial plan quantifies all of your plans into measurable units of money. It explains the total investment required this year, how much will be in fixed assets, how much in working capital, and how big are salary expenses versus raw material costs. 4. The financial plan shows the rewards. It shows how much the investors money can grow. 5. Your financial plan has three goals: a. To demonstrate the need for funds. b. To demonstrate the reward or return of a business. c. To measure financial risks. 6. To address these goals, your financial plan will have three components:
    • Handout for Entrepreneurship 101 P a g e | 174 a. the cash budgets b. the conclusions reached from the cash budgets c. ways to measure risk.7. The time frame or period of a cash budget will usually cover several years. If you estimate that it will take five years to build up the business, and that the business will be stable by the fifth year, it would mean that your cash budget should be enough to cover five years.8. Another way to determine the time frame is to take the point of view of the investor (the provider of funds). The time frame of the cash budget has to be equivalent to the time frame of the investor. Five years would be a reasonable time frame, for most investors.9. Cash outflows or costs may be sorted into variable and fixed costs. Variable costs change or vary with the number of units sold. The more you sell, the higher your variable costs will be. Raw materials and labor used in production are examples of variable costs. Because of their relation to sales, variable costs are usually expressed as a percent of sales.10. By contrast, fixed costs do not change with the number of units sold. The amount remains constant for a wide range of sales volumes, or constant for a time period.11. For most new businesses, the first years are years of investment and hard work. We see this in the cash budget as negative net cash flows in the first years. If the beginning cash balance is small, a negative net cash flow will lead to a smaller, even negative, ending cash balance. External funds will then be required to bring the amount back to minimum operating cash level, in the sub-period. That is how, you find out, how much external funding is required.12. The payback period is the time it will take for the business to fully recover or pay back the initial investment.13. The IRR is the percentage rate that equates the cash outflows and cash inflows. The higher the rate of return, the better.14. Net present value is today‘s value of all future cash flows minus the initial investment. You need to input a required rate of return in the calculation, to see if the business gets to earn sufficient money each year, to pass the test of the investor, and to see if it still produces a net positive amount, by the end of the project. A business with positive NPV is attractive.
    • Handout for Entrepreneurship 101 P a g e | 175 15. Required rate of return: the minimum reward a business must provide for an investor to invest in it. It is expressed as a percentage. 16. The breakeven point is the number of units your business must sell to just cover all its costs or ―break even‖ or to achieve at least zero profit. Below break-even, your business is not profitable. 17. If you present alternative cash budgets, you would be giving sensitivities. You can present an optimistic and a pessimistic scenario. You can present a best-case and a worst-case scenario. This is how you know what would happen if: (a) sales is higher than expected or (b) lower than expected.Learning From The InternetTo know more about the cash budget or cash flow:http://www.obdc.com/how-to-manage-and-plan-for-cash-flow/http://indonesia.smetoolkit.org/indonesia/en/content/en/604/Projecting-Cash-FlowTo know more about risk and reward:http://www.smallbusinessentrepreneurs.co.uk/balancing-risk-reward.htmlpeople.exeter.ac.uk/trkaplan/finance/finance4.pptReview Questions 1. We learn that the financial plan is a convenient summary of all the components of your business plan. It is like an executive summary that is expressed in money terms. What does this mean? 2. We learn that the financial plan quantifies all of your plans into measurable units of money. What is the benefit of expressing the plan into units of money? 3. We learn that the financial plan shows the rewards. Why is it important for the plan to show rewards? Who are we trying to impress? 4. We learn from the book that the cash budget should eventually "break even" to graduate from negative cash flows to positive cash flows. Why is this very necessary for any business? 5. Is it not enough that a business creates jobs? What would you say about a business that creates 10,000 new jobs, but the cash flow is always negative? 6. State a couple of ways to limit the time frame of a cash budget. 7. What is the difference between variable costs and fixed costs?
    • Handout for Entrepreneurship 101 P a g e | 176 8. How does the cash budget help determine funding need? 9. What are the ways by which we can measure the return of an investment? 10. What are the measures of risk of a business? Briefly describe each.Questions For Discussion 4. Suppose your cash budget shows a positive net cash flow from the first year of operations. Would you still need external funding? If so, what type of external funding would you seek? 5. There are other ways to assess the rewards of a business. One can measure reward in terms of profits or the stock price. Why the focus on cash in this session? Is cash a better measure than profits? 6. Where there is little or no inflation, money today is not very much different from money tomorrow. In such cases, wouldn‘t the quicker, simpler payback period be a better way to assess the attractiveness of a business? 7. How many sensitivities should you make and what changes should we consider? Discuss this question with your peers and come up with a general answer.Case StudyA small-business owner named Enzo Ojeda was losing sleep every Tuesday nightworrying about meeting payroll (paying salaries) on Wednesday morning. It was so badthat he considered selling the business.The business was growing yet was always short of cash. There was always equipment,suppliers, and staff to pay. Customers had to be hounded every week. In severalcases, the business had to collect even on Tuesday evenings just to meet payroll thefollowing day. Internally, there were operational problems that also affected cash flow.Many times, material parts were lacking. Whole shipments were delayed because asmall, inexpensive but critical part was missing.Enzo wondered, how he can better plan the flow of cash coming in and cash movingout.
    • Handout for Entrepreneurship 101 P a g e | 177Case Analysis 1. Do you think a cash budget would help Mr. Enzo even though his business is already running? Why or why not? 2. In your view, which costs (variable costs, working capital, one-time fixed costs, recurring fixed costs) is the greater source of Mr.Enzo‘s cash flow problems? 3. What would you suggest to Mr. Enzo to improve cash flow?GlossaryFinancial plan: The business plan expressed in numbers or money terms. It includes the cash budgets, the amount of external financing required and an assessment of the risks and rewards of the business.Cash Budget: A cash budget tracks the expected flow of cash as it comes into and goes out of a business over a future time frame.Terminal Value: The forecast value of your business at the end of a specified period. It is used to limit the time frame in a cash budget.Variable costs: Costs that change or vary with the number of units sold. Because of their relation to sales, variable costs are often expressed as a percent of sales.Fixed costs: Costs where the amount does not change or remains fixed over a wide range of sales volumes.Minimum operating cash: The least amount of cash a business needs for day-to-day operations.Payback period: The time it takes for a business to fully recover or pay back the initial investment. Shorter payback periods represent more attractive businesses.Internal rate of return: The percentage rate that equates the cash outflows and cash inflows. An internal rate of return higher than the required rate means the venture is attractive.Net present value: Today‘s value of future cash flows minus the initial investment. The rate used to convert future cash flows to today‘s value is the required rate of return. A business with positive NPV is attractive.
    • Handout for Entrepreneurship 101 P a g e | 178Breakeven point: The number of units your business must sell to just cover all costs resulting in zero profit.Sensitivities: Forecasts that differ from the original forecast because one or several variables are changed. Sensitivities are used to find out the effects on the financials (such as the cash budget) as a result of such changes.EXERCISES FOR SESSION 8: THE FINANCIAL PLANWrite your answers in the space provided 1. We learn that the financial plan is a convenient summary of all the components of your business plan. It is like an executive summary that is expressed in money terms. What does this mean? _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _______________________________________________________________ 2. We learn that the financial plan quantifies all of your plans into measurable units of money. What is the benefit of expressing the plan into units of money? _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _______________________________________________________________ 3. We learn that the financial plan shows the rewards. Why is it important for the plan to show rewards? Who are we trying to impress? _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________
    • Handout for Entrepreneurship 101 P a g e | 179 _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _______________________________________________________________4. We learn from the book that the cash budget should eventually "break even" to graduate from negative cash flows to positive cash flows. Why is this very necessary, for any business? _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _______________________________________________________________5. Is it not enough that a business creates jobs? What would you say about a business that creates 10,000 new jobs, but the cash flow is always negative? _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _______________________________________________________________6. State a couple of ways to limit the time frame of a cash budget. _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _______________________________________________________________
    • Handout for Entrepreneurship 101 P a g e | 1807. What is the difference between variable costs and fixed costs? _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _______________________________________________________________8. How does the cash budget help determine funding need? _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _______________________________________________________________9. What are the ways by which we can measure the return of an investment? _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _______________________________________________________________10. What are the measures of risk of a business? Briefly describe each. _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _________________________________________________________________ _______________________________________________________________
    • Handout for Entrepreneurship 101 P a g e | 181Exercises and Activities 1. In the table below, classify the costs or payments as to whether largely fixed or variable, largely one-time or recurring. Costs/ Payments for Fixed (F) or One-time (O) or Variable (V) Recurring (R) Materials Labor Factory Managers Major Equipment Office Rent Maintenance Zakat 2. Answer the questions based on the summary cash budget below. The cash budget is over the first six months of operations and the entrepreneur put in Sr50,000 of his own funds. Oct Nov Dec Jan Feb MarTOTAL CASH IN 250000 240000 260000 255000 235000 255000TOTAL CASH OUT 264500 253300 260800 267900 238600 242200NET CASH FLOW -14500 -13300 -800 -12900 -3600 12800BEGINNING CASH 50000 35500 25000 25000 25000 25000ENDING CASH 1 35500 22200 24200 12100 21400 37800FINANCING/ (PAYMENT) 0 2800 800 12900 3600 -12800ENDING CASH 2 35500 25000 25000 25000 25000 25000CUMULATIVE FINANCING 0 2800 3600 16500 20100 7300MINIMUM CASH BALANCE 25000 a. How do we know from the cash budget that the entrepreneur put in Sr50,000? b. How much outside financing is needed? c. Is outside financing needed in October? d. When can the business start paying back the external funder? End of Session 08