2/7/14 FINANCIAL PLANNING. What is a Financial Plan? Most people SEE what is obvious, but very few UDERSTAND or ACT on what they see.

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1 FINANCIAL PLANNING Financial Planning for Small Business Success!! Preparing and Using Financial Records!! Grace Matiru, PhD. Faculty Associate, Dewey House for Civic Engagement, and Adjunct, Community Development and Applied Economics University of Vermont, Burlington, Vermont. Most people SEE what is obvious, but very few UDERSTAND or ACT on what they see. University Partnership Linking OSY (Out-of-School Youth) to Agrientrepreneurship and Development to promote Job Opportunities and Business Scale-Up in Mindanao This presentation is made possible by the generous support of the American people through the United States Agency for International Development (USAID). The contents are the responsibility of the University of Hawaii and Southern Christian College and do not necessarily reflect the views of USAID, the United States Government, or Higher Education for Development (HED). Paraphrased : Michael G. Lehan (2000) The Small Business Guide for Building and Using a Cash flow Monitoring System : The Right End of the Telescope Using Your Cash Flow to Grow your Business. What is a Financial Plan? Examples of Goals that Require a Financial Plan A Financial Plan = Travel Plan or Road Map to Reaching Money-related Goals. 1. How much money do you want to make? 2. How are You going to Make it? 1. Support Myself. 2. Pay My Debts. 3. Make Retirement Money. 4. Create Jobs for my Community. 5. Make money for Vacation. Why do I Need a Financial Plan? What Are the Steps in Financial Planning? Set SMART Goals. To Record where I Started. See How Far I have Come Plan for the Future. Prepare for Challenges and Surprises. Taking Action. Evaluate Results Set Goals My Financial Plan Prepare for Challenges and Surprises Show others What is Going On. Evaluate Results. Take Action 1

2 When Should I Make a Financial Plan? What Does a Financial Plan Look Like? AT ALL STAGES IN MY BUSINESS STARTING A BUSINESS? HAVE A BUSINESS BUT NO PLAN HAVE A BUSINESS AND A PLAN ACTION MAKE A PLAN DEVELOP A PLAN USING DATA EXECUTE THE PLAN A Financial Plan is Summarized in 3 Documents: Balance Sheets. Income Statements. Cash Flow Budgets. Income Statements Balance Sheets FINANCIAL PLAN Cash Flow Budgets INCOME STATEMENT MOST EXCITING DOCUMENT LIKE A MOVIE The most IMPORTANT, or Keystone Financial Document. Shows what your business Owns Owes Is Worth Prepared on a Specific Date, usually 12/31 - Like a Still- Life Painting or Photograph. Shows Performance over a specific period (usually a month or year) in terms of: Revenue Expenses The Period s Profit CASH FLOW BUDGET The Most USEFUL financial planning tool. Like A Water Tank Deals ONLY with CASH coming in and out of the business. Shows Cash available to pay bills (debts) and buy supplies. MOST IMPORTANT Positive Cash balances give business person and lenders courage. 2

3 The most IMPORTANT, or Keystone Financial Document. Shows what your business Owns Owes Is Worth Prepared on a Specific Date, usually 12/31 - Like a Still- Life Painting or Photograph. Balance Sheet: A snapshot (picture) of the business on a specific date usually the last day of the year, for example, 12/31/2012. Assets Liabilities - & Net Worth The balance sheet shows a summary of: Assets - How much the business owns or is owed. Liabilities/Debts How much the business owes others. Owners Equity How much belongs to the owners of the business (if all assets were sold and all debt was paid off). The Information On Balance Sheets MUST Be: Accurate Honest, using most accurate and full information available. Complete Nothing left out or hidden Conservative Low valuation of assets & high valuation of liabilities. Consistent Using the same method each period. ASSETS - KEY TERMS Assets are anything of value owned by the business, or owed to the business on the date the balance sheet is prepared, usually at the end of the year, for example, 12/31/2012. ASSET LIFE Length of time an asset remains useful or before it is used up. KEY TERMS CURRENT ASSETS - Cash and things that can be sold for cash or used up in 12 months or less. Examples: Accounts Receivable (money owed to the business by customers who buy on credit), Inventory, Tools, Supplies. 3

4 KEY TERMS INTERMEDIATE ASSETS Assets that have a useful life of 1-10 years. Examples: Machinery, Equipment, Temporary Buildings, Bicycles, Some Livestock, etc. KEY TERMS LONG-TERM ASSETS Assets that have a useful life of more than 10 years. Examples: Permanent Buildings, Land, Some Machinery and Equipment. - KEY TERMS KEY TERMS LABILITIES Liabilities - Liabilities are money owed by the business to others on the date the balance sheet is prepared. CURRENT LIABILITIES Money owed by the business that will be paid in the next 12 months. EXAMPLES Accounts Payable (utility bills e.g., water, electricity, etc.), Credit Card Bills, Notes Payable (owed to suppliers), current portion and interest due on Long and Intermediate Term Debt. KEY TERMS KEY TERMS INTERMEDIATE LIABILITIES EXAMPLES LONG-TERM LIABILITIES EXAMPLES Money owed by the business (often associated with Intermediate Assets) that will be paid in the next 1-10 years. Debt on intermediate assets (livestock, equipment, machinery, some credit card bills) less current portions. Money owed by the business that will be paid in more than10 years. Debt on Long-Term Assets such as mortgages on land, and debt on machinery (less current portions). 4

5 CAUTION ON CREDIT CARDS AND LOAN SHARKS CAUTION ON USE OF LINES OF CREDIT CREDIT: The Ability to Borrow Money. LINE OF CREDIT CAUTION Avoid high Credit Card debt or borrowing from loan sharks ( shady lenders ). The high interest rates charged often make it difficult to pay off these debts in the short-term, AND can easily ruin your business or your life. LINE OF CREDIT - An informal loan arrangement between a bank and a customer allowing the customer to borrow up to a pre-specified amount. A line of Credit is neither an asset nor a liability and so is NOT recorded on the Balance Sheet. Use your line of credit to take advantage of unexpected opportunities, or to meet unexpected expenditures. Avoid misusing it for nonbusiness related activities or to purchase long-term assets. - KEY TERMS FORMAT Net Worth: Net Worth is Assets less Liabilities. LEFT HAND SIDE RIGHT HAND SIDE + Value of Assets - Value of Liabilities = Net Worth Net Worth is sometimes called Owners Equity. Assets - What the business owns or is owed on the date the balance sheet is prepared Liabilities - What the business owes and Net Worth - (or owner s equity). FORMAT FORMAT ASSETS Assets are often summarized on the Left Hand Side starting with Current Assets, followed by Intermediate Assets, then Long-Term Assets. LIABILITIES & NET WORTH Liabilities and Net Worth are summarized on the Right Hand Side starting with Current Liabilities, followed by Intermediate, then Long-Term Liabilities, and finally, Net Worth. Current (Short-term) Assets - Assets that will be used up in 12 months or less. Intermediate Assets - Assets that have a useful life of 1 10 years. Long term (fixed) assets Assets that have useful lives more than 10 years. Current (Short-term) Liabilities - Bills that will be paid off in 12 months or less. Intermediate Liabilities Debts (Bills or Notes) Associated with Intermediate Assets. Long term Liabilities Debts Associated with Longterm Assets. 5

6 EXAMPLE EXERCISE 1. Explain What These Terms Mean Assets Credit Account Receivable Account Payable Assets Santos Flowers Delight Co. Balance Sheet 12/31/12 Liabilities Cash 6,045 Note Payable 1,500 Flower Supplies 997 Equity Santos Capital 5,542 Total Assets 7,042 Total Liabilities and Equity 7,042 Short-term Asset Intermediate-term Asset Long-term Asset Liabilities Short-term Liability Intermediate-term Liability Owner s Equity EXERCISE 2. IS IMPORTANT TO List and organize other items that could be added to the Balance Sheet of Santos Flower Delights Co. Business Owners/Partners. How will each of them affect the balance sheet? Business Managers/Operators. Lenders and Other Stakeholders. WHAT THE SHOWS WHAT THE SHOWS THE FINANCIAL POSITION OF THE BUSINESS An overview of the business s assets, debts, and owners equity (net worth) and how they relate to each other. LIQUIDITY STATUS OF THE BUSINESS The ability of the business to pay its bills or (debts) as they come due. 6

7 WHAT THE SHOWS SHOWS SOLVENCY STATUS OF THE BUSINESS Whether the business has more assets than debts. LIQUIDITY CURRENT RATIO SOLVENCY DEBT TO ASSET RATIO NET WORTH ASSETS MINUS LIABILITIES LIQUIDITY - SOLVENCY EXERCISE 3 What do these Terms Mean? EXERCISE 4 Review of Ratios TERM DEFINITION Ratio What is the Comfortable range? Liquidity Solvency Current Ratio Current Ratio Debt to Asset Ratio Debt to Asset Ratio Net Worth 7