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The DEC Education: Understanding Financials

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ABOUT THE CLASS …

ABOUT THE CLASS
This class will walk you through a series of financial constructs needed to run a successful business. Understand key revenue calculations and expense assumptions over a multi-year period. Tie in income statement numbers as a point to showcase factors that affect cash flow such as receivables, payables, and taxes. Walk through a balance sheet and understand the importance of this and other documents for growing your business.

THE TAKEAWAYS
To obtain an understanding of core financial constructs needed to project cash flow, revenue, expenses, income statement (pro forma) and a balance sheet.
To highlight pitfalls and key issues to address in projections.
To establish best practices for calculating key assumptions associated with startup financial projections.

ABOUT THE INSTRUCTOR, Deborah L. von Storch
Deborah von Storch is the Southwest Region Strategic Growth Markets Leader at EY, a leading multinational professional services firm. She manages a multi-disciplined practice dedicated to serving high-growth companies that are evolving into market leaders. With more than 31 years of experience, Deborah has a deep knowledge of the needs and issues faced by high-growth companies, with an extensive background in providing global account leadership, strategic tax and transaction planning, and advisory services. Deborah leads EY's Entrepreneur of the Year® program for an eight-state region in the Southwest geography.

PRESENTED BY, The Dallas Entrepreneur Center
The Dallas Entrepreneur Center (DEC) is an entrepreneurial support system dedicated to bringing together the resources, support and opportunities that Dallas-area entrepreneurs need to start, build and grow their businesses. Launched in 2013, the DEC believes investment in entrepreneurs is investment in the community. Learn more at thedec.co.

Published in Economy & Finance , Business
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  • 1. The DEC Fundamentals of Financial Statements September 24, 2013 Debra L. von Storch
  • 2. Page 2 Objectives ► Obtain an understanding of core financial constructs needed to project cash flow, revenue, expenses, income statement (pro forma) and a balance sheet. ► Discuss pitfalls and key issues to address in projections. ► Establish best practices for calculating key assumptions associated with startup financial projections. The DEC - Fundamentals of Financials
  • 3. Page 3 Financial Statements ► Income Statement (profit and loss) and Statement of Cash Flows – focus is “flows” of activities over the period ► Balance Sheet – accounts at a specific point in time The DEC - Fundamentals of Financials Income Statement Revenues - Expenses Net Income Statement of Retained Earnings Beginning RE + Net Income - Dividends Ending RE Balance Sheet Cash + Other Assets Total Assets Total liabilities + Stock + Retained Earnings Total Liabilities and Equity Cash Flows Inflows - Outflows Ending cash balance
  • 4. Page 4 Compilation of financial statements ► Financial statements are interdependent ► Income statement ► Balance sheet ► Statement of cash flows ► Income statement and balance sheet report revenues as they are earned and expenses as they are incurred – accrual basis accounting ► Cash flow statement converts the accrual basis of accounting to cash basis The DEC - Fundamentals of Financials
  • 5. Page 5 Compilation of financial statements ► Bottom line – cash is king! Follow the cash ► Accounts receivable may not be collected immediately ► Accounts payable are often dictated by suppliers’ terms (number of DSO, etc.) ► Tip – review your cash flow at least monthly, using a report that presents side by side numbers for two or more periods. ► Track changes in cash position The DEC - Fundamentals of Financials
  • 6. Page 6 Income Statement ► Income statement reflects the enterprise’s ► Income ► Expenses ► Gains ► Losses ► The summation of these transactions is “net income” or “net loss” which is often referred to as “bottom line” ► Date of statement is for a defined period of time and captures the impact of the transactions during such period The DEC - Fundamentals of Financials
  • 7. Page 7 Income Statement - Model The DEC - Fundamentals of Financials Jan '13 Feb '13 Mar '13 Apr '13 May '13 Jun '13 July '13 Aug '13 Sept '13 Oct '13 Nov '13 Dec '13 FY '13 Revenue - 15,000 20,000 25,000 30,000 40,000 45,000 50,000 55,000 60,000 70,000 80,000 490,000 Cost of goods sold - (12,000) (16,000) (18,750) (22,500) (30,000) (31,500) (35,000) (38,500) (39,000) (45,500) (52,000) (340,750) Gross profit - 3,000 4,000 6,250 7,500 10,000 13,500 15,000 16,500 21,000 24,500 28,000 149,250 Operating expenses, excl depr - (8,000) (8,000) (8,000) (8,000) (8,000) (12,000) (12,000) (12,000) (12,000) (12,000) (12,000) (112,000) Depreciation expense - - (1,818) (1,818) (1,818) (1,818) (1,818) (1,818) (1,818) (1,818) (1,818) (1,818) (18,180) Net Income - (5,000) (5,818) (3,568) (2,318) 182 (318) 1,182 2,682 7,182 10,682 14,182 19,070
  • 8. Page 8 Income Statement - Ratios ► Income statement ratios for managing your enterprise ► Gross margin – gross profit in relation to revenue ► Operating expenses as a % of revenue ► EBITDA – earnings before interest, taxes, depreciation, amortization ► EBITDA margin – EBITDA in relation to revenue The DEC - Fundamentals of Financials Jan '13 Feb '13 Mar '13 Apr '13 May '13 Jun '13 July '13 Aug '13 Sept '13 Oct '13 Nov '13 Dec '13 FY '13 Gross margin n/a 20.0% 20.0% 25.0% 25.0% 25.0% 30.0% 30.0% 30.0% 35.0% 35.0% 35.0% 30.5% Opex as a % of revenue n/a 53.3% 40.0% 32.0% 26.7% 20.0% 26.7% 24.0% 21.8% 20.0% 17.1% 15.0% 22.9% EBITDA n/a (5,000) (4,000) (1,750) (500) 2,000 1,500 3,000 4,500 9,000 12,500 16,000 37,250 EBITDA margin n/a -33.3% -20.0% -7.0% -1.7% 5.0% 3.3% 6.0% 8.2% 15.0% 17.9% 20.0% 7.6%
  • 9. Page 9 Balance Sheet ► Overview of the enterprise’s total assets and liabilities at a particular date ► Indicative of the health of your financial affairs ► ASSETS = LIABILITIES + OWNER’S EQUITY The DEC - Fundamentals of Financials
  • 10. Page 10 Balance Sheet ► Components of the balance sheet ► Cash – money on deposit in bank accounts ► Accounts receivable ► Inventory ► Prepaid assets ► Fixed assets – property, plant and equipment; long-life tangible, productive operating assets ► Accrued liabilities – amounts for the costs of unpaid expenses ► Loans – amounts borrowed on interest-bearing liabilities ► Stock – amounts of capital invested in the enterprise by the owner or other shareholders ► Retained earnings – amounts remaining in the owners’ equity account The DEC - Fundamentals of Financials
  • 11. Page 11 Balance sheet - model The DEC - Fundamentals of Financials Jan '13 Feb '13 Mar '13 April '13 May '13 June '13 July '13 Aug '13 Sept '13 Oct '13 Nov '13 Dec '13 FY '13 Cash 500,000 277,000 268,000 247,250 254,000 247,250 181,250 181,750 177,750 178,250 185,250 134,750 134,750 Accounts receivable 15,000 20,000 35,000 25,000 30,000 40,000 45,000 50,000 55,000 60,000 70,000 70,000 Inventory 12,000 12,000 16,000 18,750 22,500 30,000 31,500 35,000 38,500 39,000 45,500 45,500 Prepaids - 2,000 2,000 2,500 2,500 2,500 2,500 2,500 2,500 2,500 2,500 2,500 2,500 Current assets 500,000 306,000 302,000 300,750 300,250 302,250 253,750 260,750 265,250 274,250 286,750 252,750 252,750 Fixed assets - 200,000 198,182 196,364 194,546 192,728 190,910 189,092 187,274 185,456 183,638 181,820 181,820 Total Assets 500,000 506,000 500,182 497,114 494,796 494,978 444,660 449,842 452,524 459,706 470,388 434,570 434,570 Accounts payable 8,000 8,000 8,000 8,000 8,000 8,000 12,000 12,000 12,000 12,000 12,000 12,000 Accrued expenses - 3,000 3,000 3,500 3,500 3,500 3,500 3,500 3,500 3,500 3,500 3,500 3,500 Current liabilities - 11,000 11,000 11,500 11,500 11,500 11,500 15,500 15,500 15,500 15,500 15,500 15,500 Debt - - - - - - - - - - - - - Total liabilities - 11,000 11,000 11,500 11,500 11,500 11,500 15,500 15,500 15,500 15,500 15,500 15,500 Equity 500,000 495,000 489,182 485,614 483,296 483,478 433,160 434,342 437,024 444,206 454,888 419,070 419,070 Total liabilities and equity 500,000 506,000 500,182 497,114 494,796 494,978 444,660 449,842 452,524 459,706 470,388 434,570 434,570 Beginning equity - 500,000 495,000 489,182 485,614 483,296 483,478 433,160 434,342 437,024 444,206 454,888 - Net income (5,000) (5,818) (3,568) (2,318) 182 (318) 1,182 2,682 7,182 10,682 14,182 19,070 Capital infusion 500,000 - - - - - - - - - - - 500,000 Distributions - - - - - - (50,000) - - - - (50,000) (100,000) Ending equity 500,000 495,000 489,182 485,614 483,296 483,478 433,160 434,342 437,024 444,206 454,888 419,070 419,070
  • 12. Page 12 Statement of Cash Flows ► Shows the total change in cash, and the reason for change ► Three categories of cash flows: ► Operating ► Investing ► Financing ► Statement helps to predict an entity’s ability to ► Generate future cash flows ► Predict ability to pay debts and dividends ► Explains difference between accrual basis net income and cash flows ► Shows significant non-cash transactions which will impact future cash flow The DEC - Fundamentals of Financials
  • 13. Page 13 Statement of Cash Flows - Operating ► Transactions that involve producing and selling goods and services ► Inflows: selling goods and services ► Outflows: inventory, salaries, taxes, interest, other expenses The DEC - Fundamentals of Financials
  • 14. Page 14 Statement of Cash Flows - Investing ► Transactions that involve acquiring and disposing of long- term assets ► Inflows: sale of plant assets, sale of investments, collection of loans ► Outflows: purchase of plant assets, purchasing investments, lending funds The DEC - Fundamentals of Financials
  • 15. Page 15 Statement of Cash Flows - Financing ► Transactions that involve raising capital from debt and equity sources, returning capital to these sources, and making distributions to owners ► Inflows: selling stock, issuing bonds, notes, mortgages ► Outflows: purchasing treasury stock, paying dividends, repaying principal on borrowings, distributions The DEC - Fundamentals of Financials
  • 16. Page 16 Cash flow statement - model The DEC - Fundamentals of Financials Jan '13 Feb '13 Mar '13 April '13 May '13 June '13 July '13 Aug '13 Sept '13 Oct '13 Nov '13 Dec '13 FY '13 Net income - (5,000) (5,818) (3,568) (2,318) 182 (318) 1,182 2,682 7,182 10,682 14,182 19,070 Add: depreciation expense - - 1,818 1,818 1,818 1,818 1,818 1,818 1,818 1,818 1,818 1,818 18,180 Change in AR - (15,000) (5,000) (15,000) 10,000 (5,000) (10,000) (5,000) (5,000) (5,000) (5,000) (10,000) (70,000) Change in inventory - (12,000) - (4,000) (2,750) (3,750) (7,500) (1,500) (3,500) (3,500) (500) (6,500) (45,500) Change in prepaids - (2,000) - (500) - - - - - - - - (2,500) Change in AP - 8,000 - - - - - 4,000 - - - - 12,000 Change in accruals - 3,000 - 500 - - - - - - - - 3,500 Cash flow from operations - (23,000) (9,000) (20,750) 6,750 (6,750) (16,000) 500 (4,000) 500 7,000 (500) (65,250) Capital expenditures - (200,000) - - - - - - - - - - (200,000) Cash flow from investing - (200,000) - - - - - - - - - - (200,000) Equity infusion 500,000 - - - - - - - - - - - 500,000 Distributions - - - - - (50,000) - - - - - (50,000) (100,000) Cash flow from financing 500,000 - - - - (50,000) - - - - - (50,000) 400,000 Net cash flow 500,000 (223,000) (9,000) (20,750) 6,750 (56,750) (16,000) 500 (4,000) 500 7,000 (50,500) 134,750 Beginning cash - 500,000 277,000 268,000 247,250 254,000 197,250 181,250 181,750 177,750 178,250 185,250 - Ending cash 500,000 277,000 268,000 247,250 254,000 197,250 181,250 181,750 177,750 178,250 185,250 134,750 134,750 Change in cash 500,000 (223,000) (9,000) (20,750) 6,750 (56,750) (16,000) 500 (4,000) 500 7,000 (50,500) 134,750
  • 17. Page 17 Best practices ► Use separate cash accounts in your enterprise ► General operating account ► Used to process the majority of your normal, day-to-day transactions such as paying vendors and receiving customer payments ► Payroll account ► Processes payroll activity ► Investment account ► Park excess cash balances to generate return on investment ► Restricted cash account ► Cash that is “set aside” for a particular use or purpose The DEC - Fundamentals of Financials
  • 18. Page 18 Keep in mind . . . ► Cash is king! ► Practice cash management ► Balance amount of cash on hand, on a regular basis ► Ensure you have sufficient cash to meet obligations ► Invest excess cash to earn a return ► Establish cash controls ► Cash receipts – deposit regularly and record promptly ► Cash payments – paper trail for all disbursements (receipts, purchase orders, etc.) ► Separation of duties – no single person responsible for all functions (writing checks, making deposits, preparing bank reconciliations) The DEC - Fundamentals of Financials
  • 19. Page 19 Keep in mind . . . ► Impact of growth on cash flow ► Actions that raise cash flow ► Decreasing accounts receivable and inventory ► Increasing accounts payable and accrued expenses payable ► Actions that lower cash flow ► Increasing accounts receivable and inventory ► Decreasing accounts payable and accrued expenses payable ► Depreciation expense is not a cash outlay The DEC - Fundamentals of Financials
  • 20. Ernst & Young LLP Assurance | Tax | Transactions | Advisory About Ernst & Young Ernst & Young is a global leader in assurance, tax, transaction and advisory services. Worldwide, our 167,000 people are united by our shared values and an unwavering commitment to quality. We make a difference by helping our people, our clients and our wider communities achieve their potential. Ernst & Young refers to the global organization of member firms of Ernst & Young Global Limited, each of which is a separate legal entity. Ernst & Young Global Limited, a UK company limited by guarantee, does not provide services to clients. For more information about our organization, please visit www.ey.com © 2013 Ernst & Young LLP Published in India. All Rights Reserved. This publication contains information in summary form and is therefore intended for general guidance only. It is not intended to be a substitute for detailed research or the exercise of professional judgment. Neither EYGM Limited nor any other member of the global Ernst & Young organization can accept any responsibility for loss occasioned to any person acting or refraining from action as a result of any material in this publication. On any specific matter, reference should be made to the appropriate advisor