New Venture Competition Financial Forecasting Workshop Scott Wiscomb and Amelia Taylor March 10, 2015
Financial Forecasting Workshops Goal # 1 Solid Revenue Forecast Tied to key assumptions from your Team s Value Proposition Sales Price(s) Broken out by Segment Based on Interviews with Potential Customer Unit Sales Time Phased 1 st Year, Month by Month Forecast Years 2 and 3 Annual Forecast 2
Financial Forecasting Workshops Goal # 2 1 st Draft of Cost of Goods Forecast Costs tied directly to producing the product/service. Costs by type: Personnel Materials Facilities, etc. 1 st Draft of Expense Forecast All non-product costs: required to market, sell and administer 1 st Year, Month by Month Forecast Years 2 and 3 Annual Forecast 3
Financial Forecasting Workshops Goal # 3 1 st Draft of Income Statement Pro-forma Example: Pro-forma Income Statement $ % Sales Revenue 6,000,000 100% Less: Cost of Goods Sold 3,050,000 51% Gross Profit 2,950,000 49% Less: Operating Expenses General & Administrative Expense 250,000 4% Selling Expense 320,000 5% Depreciation Expense 325,000 5% Research & Development Expense 480,000 8% Total Operating Expense 1,375,000 23% Operating Profit/(Loss) 1,575,000 26% Less: Interest Expense -100,000-2% Net Profit/Loss) Before Taxes 1,475,000 25% Less: Tax Expense -571,000-10% Net Income/(Loss) 904,000 15% 4
Financial Forecasting Workshops Agenda Understand How Business Model Canvas Quantifies: w Revenue Streams w Cost Structure Create Initial Estimates of Revenues Deep Dive: Prepare Revenue Forecast (Exercise I) Understand How to Convert Activities $$$ (Exercise II + III) Determine Expected Timing of Expenses, Costs and Revenue 1 st Draft of Financial Forecast: Year 1 by month 3 Years annual
From Business Model Canvas to Financial Forecast Cost Structure Revenue Stream 6
From Business Model Canvas to Financial Forecast Key Partners What you will do internally? What will be outsourced? Cost Structure Revenue Stream 7
From Business Model Canvas to Financial Forecast Key Activities What has to be done to create your product / service and then get it to market? Use a Gantt Chart to show time phased activities and specific deliverables for each major project phase. Cost Structure Revenue Stream 8
From Business Model Canvas to Financial Forecast Key Resources: Physical Intellectual Human Financial Cost Structure Revenue Stream 9
From Business Model Canvas to Financial Forecast Value Proposition: Who will benefit from your product / service? What will they pay? Your guide to: 1) target market(s) and 2) initial pricing alternatives Cost Structure Revenue Stream 10
From Business Model Canvas to Financial Forecast Customer Segments: Needs require/justify a distinct offer Reached through different channel Require different type of relationship Willing to pay for different aspects of the offer Result in different profitability Super valuable to have multiple customer segments: costs can be distributed over much higher volume! Cost Structure Revenue Stream 11
From Business Model Canvas to Financial Forecast Cost Structure Revenue Stream Questions? 12
The Financial Planning Process: Operating / Financial Sales forecast Gain Customer Interest Demo Quote Receive Purchase Order 2% 15% 50% 100% Production plans Lead Times Raw Material Requirements Direct Labor Factory Overhead Operating expense HR needs Facility Costs Legal & Accounting Supplies, etc. 13 Projections Income Statement Cash Budget Balance Sheet
Revenue Forecast Example GyroCo Projected Unit Sales by Market Segments US Government Contract DOD 20 Units XR1 10 Units XR2 NASA 5 Units XR1 5 Units XR2 NOAA 5 Units XR2 US Industrial Companies GE 10 Units XR1 10 Units XR2 Boeing 20 Units XR1 5 Units XR2 Lockheed Martin 20 Units XR2 Global Industrial Companies Asia 30 Units XR1 20 Units XR2 Middle East 10 Units XR2 Europe 30 Units XR1 10 Units XR2 Research DARPA Units XR1 2 Units XR2 NRAL 1 Units XR2 ARGON 1 Units XR1 1 Units XR2 14
Preparing the Revenue Forecast Example Sources by Market Segment (showing 2 of 4 segments) Expected Quantities Expected Average Prices Segment GyroCorp Inc. Sales Forecast - 2015 XR1 XR2 Total by Customer & Est. Units Est. Price Sales Total Est. Units Est. Price Sales Total Segment Government DOD 20 45,000 900,000 10 60,000 600,000 1,500,000 NASA 5 50,000 250,000 6 75,000 450,000 700,000 NOAA 0 0 5 70,000 350,000 350,000 1,150,000 1,400,000 2,550,000 US Industrial GE 10 40,000 400,000 10 80,000 800,000 1,200,000 Boeing 20 35,000 700,000 7 50,000 350,000 1,050,000 Lockheed Martin 0 0 20 60,000 1,200,000 1,200,000 3,450,000 1,100,000 2,350,000 Total 2,250,000 3,750,000 6,000,000
Create Initial Estimates of Revenues Customer Segments for each segment: Expected # of Units Average Unit Price Penetration of Market Segment over Time 1 st Sale 50 th Sale 1,000 th Sale Etc. 16
Revenue Forecast Sales Units and Pricing Hypotheses Repeatedly tested to gain understanding and confidence of customer needs/wants and the product fit. Who are customers? What do they need/want? Why will they buy? How many units will likely be sold? (market size/share) What are revenue sources? (sales, subscriptions, rentals, pay per use, etc.) What are the sales channels? How much can we charge for each product offering? Will the projected revenue stream cover all costs? (short and long term: will revenue and profit increase materially?) As your understanding evolves, the revenue and profit forecasts will also evolve. Frequently revisit value proposition, segments, and channels 17
Create Initial Estimates of Revenues Exercise I Break into Teams Mentors will circulate Every team have a computer and the Template? Tab Exercise I Substitute your Team Name and Product Name(s) into Template Make notes to explain your assumptions What drives price differences between market segments? What is the company doing to drive increase in sales over time? Note any intended product enhancements Note your thoughts regarding the costs required to increase sales over time. Tab Product Sales and Price Forecast Using unit sales from 1 st tab break annual sales from year one into monthly sales Tab Sales Revenue Forecast complete (note, column Fees/ Commissions will be a % of revenue could be 0 for your product) 18
Forecast Gross Margin (Sales Cost of Goods) High gross margin % especially important to start-ups: Prices are likely to fall in order to attract more customers Firm may have to lower prices to maintain market share in face of competition Provide a cushion against operational or other problems that increase costs Gross Margins are kept high through continuous innovation as firm substitutes new products with high gross margins for older products where margins have eroded. GyroCorp, Inc. New Products to be Introduced in 2016 will Protect Overall Gross Margin %. 19
Forecast Cost of Goods Sold Costs directly tied to producing the product/service. Cost structure will be based on expected sales volumes and net prices (you want price to > costs at least at some point!) Key variable: correct time phasing you have to make it before you can sell it! Fixed Costs, Variable Costs and Step-function Costs 20
Forecast Gross Margin (Sales Cost of Goods Sold) Gross Margin % is key predictor of long-term success Gross Margin % tends to be relatively constant within industries Grocery Industry < 10% Software > 50% Extraordinary companies generate high Gross Margin year after year, after year Gross Margin = Effectiveness of turning Raw Materials into a Finished Product/Service that Customers Value. 21
Preparing Forecast Cost of Goods Sold (Example) Start with Production Schedule - Units Produced x Material Costs per Unit (variable) - # Hours x $ Pay Rates (semi-variable) - Monthly Facility & Depreciation Costs (fixed) GyroCorp Inc. Cost of Goods Forecast - 2015 Through Dec January February March April Total Direct Labor 20,740 31,110 41,480 46,665 Total Materials Costs 35,960 53,940 71,920 80,910 Total Facility Costs 22,439 22,439 22,439 24,939 Total Depreciation 11,667 19,667 22,867 22,867 Total Manufacturing Costs 90,805 127,155 158,705 175,380 22
Preparing Forecast: Cost of Goods Sold Exercise II Break into Teams Mentors will circulate Tab 4 Cost of Goods Forecast Change each line item to Name the Costs your company will incur to create your product(s) / service(s) Make estimates by: Org Chart: Personnel Needed to Create the Product/Service (on scratch pad is fine) Create an area within this tab to calculate wages: Show estimated wage rate for each employee skill level Show estimated # of hours for each employee skill level (per month) Point the sum of the above estimates into lines 8 11 (increase or decrease # of lines) Estimate Materials Needed to Create Product/Service (units and $ cost) Estimate Facility Costs Complete Each Line Item (Ignore Depreciation for Now) 23
Forecast Operating Expenses Expenses = costs not directly tied to producing the product/ service. (Indirect costs or Overhead) Sales channel costs could be reduction in the price received. Customer acquisition and retention costs all costs of activating or selling to a group of customers. (marketing, sales, customer service) Other expenses rent, utilities, insurance, admin personnel, etc. Costs tend to be: fixed (independent of volume), variable (vary with volume) or a step-function (fixed over a certain volume, increase, then remain fixed over 2 nd level of volume). 24
Preparing Forecast Expenses Exercise III Break into Teams Mentors will circulate Tab 5 Operating Expense Build-up Make estimates by: Org Chart: Personnel Needed those not in CGS (on scratch pad is fine) Create an area within this tab to calculate wages: Show estimated wage rate for each employee skill level Show estimated # of hours for each employee skill level (per month) Calculate monthly wage estimates Point the sum of the above estimates into lines 8 Make a wild guess at the other expense line items Add line items specific to your New Venture s requirements 25
Preparing Forecast Expenses (Example) Administrative Expenses benefit the entire organization or do not belong in one particular department Fixed Expenses these are incurred based on the passage of time Rent, Utilities, Depreciation, Insurance Most expenses can be estimated within a reasonable range, some vary greatly from year to year, such as Legal Expense. GyroCorp Inc Administrative Budget 2015 Through December January February March April Payroll 59,550 67,070 65,403 87,003 Payroll Taxes & Benefits 13,697 15,426 15,043 20,011 Facilities and Equipment Rental 11,280 11,280 11,280 11,280 Utilities, Phone, Postage 7,700 7,700 7,700 7,700 Insurance 750 750 750 750 Auto, Travel & Entertainment 2,800 2,800 2,800 2,800 Legal and Accounting 5,650 5,650 5,650 5,650 Depreciation 330 330 1,270 1,270 Total G & A Expenses 103,957 113,206 112,096 138,664 26
Preparing Forecast Expenses Start with Organization Chart Wages are often your largest single expense Fixed wages (regular employee) Variable wages (overtime and temps) Human Resource burden : taxes & benefits These will be calculated as a % of wages Many costs can be estimated based on # of employees Okay to estimate based on headcount early in the forecasting process As plan gets further developed, be more specific. 27
Preparing Forecast Expenses (Example) Sales and Marketing Costs In Anticipation of Initial Sales and First Year of Production 2015 VP Marketing OEM DOD Sales Lead OEM Portable Power Sales Lead OEM Remote Power Sales Lead OEM Recreation Sales Lead Sales Support Marketing Support Using expected org chart as a starting point think of the activities to be performed by this group. Make a list of costs that will be required to perform the activities. For example, this is the marketing group, will they travel to customer sites? What supplies will they need? Etc., etc., 28
Financial Forecasting Putting it all Together! Go to Tab 4 CGS Exercise II Insert several lines underneath Total Cost of Goods Sold What Needs to be Added Here? 29
Financial Forecasting Putting it all Together! Go to Tab 4 CGS Exercise II Insert several lines underneath Total Cost of Goods Sold What Needs to be Added Here? UNITS! 30
Financial Forecasting Putting it all Together! At Tab 4 CGS Exercise II 1. Insert several lines underneath Total Cost of Goods Sold 2. ENTER # OF UNITS YOU EXPECT TO PRODUCE/MONTH 3. Calculate Cost per Unit Right Now your Proforma Income Statement is Based on Assumption: You will sell all that you produce, + you will produce all that you will sell. This is not Reality! Future Forecasting Work Session: Time Phase Production vs. Sales 31
Pro-forma Income Statement Example 32
Financial Forecasting Putting it all Together! Go to Tab 6 Pro-forma Income Statement for Year 1 How promising does it look? There is a lot of additional work ahead before you become confident in each component of the Pro-forma That is okay because you have time Concentrate 1 st on the Revenue Forecast Really know your value proposition Attributes that will make customers want to buy Know each segment s price sensitivity Do scenario planning on revenue growth Get help from mentors and office hours 33
Financial Forecasting Workshops Summary Solid Revenue Forecast 1 st Draft of Cost of Goods Forecast 1 st Draft of Expense Forecast 1 st Draft of Income Statement Pro-forma Understand How Business Model Canvas w Revenue Streams w Cost Structure Quantifies: Dave Adornetto will let you know regarding NEXT STEPS 34
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Additional Slides Estimating Market Size 36
Market Size Quantifies the financial potential of your business. Helps you refine Business Model Canvas hypotheses: Very small market size may not be worth pursuing. May be difficult to gain traction in a gigantic market. Two measurements: $$$ Units # People Consumption (e.g. downloads, room nights, kilowatt hours, etc.) 37
Three Market Size Estimates Total Addressable Market (TAM): Value of all of the buyer/seller relationships participating in the market. Served Addressable Market (SAM): The part of the TAM for which your business model s value proposition is strongest. TAM SAM Target TARGET Target Market: (Usually)demographic segment of the SAM with the most direct path to success. 38
Total Addressable Market (TAM) Quantifies the entire chain of buyer/seller relationships in your market. Only need to estimate the value of the relationships at point of consumption (incorporates the value of all relationships in the chain). Usually very broad. Easiest to estimate. Examples: Mobile apps Energy consumption Health & fitness 39
Served Addressable Market (SAM) A value proposition rarely applies to an entire TAM. Opportunity to sharpen your focus on a particular part of the market. If TAM and SAM aren t that different, just estimate an addressable market. Examples: Mobile healthcare apps for seniors Self-generated renewable energy storage Health & fitness at work 40
Target Market Process not that different than for SAM. One more level of refinement. Often a demographic target. Examples: Mobile healthcare apps for seniors, targeting retirement homes and large gerontology practices. Self-generated renewable energy storage, targeting the oilfield services, food manufacturing and automotive industries. Health & fitness at work, targeting new male employees aged 25-40 in companies with annual sales of $500M or more. 41
Quantifying Market Size If you re lucky: Find an industry or market study that fits your business model If you re not: Build a market model Important to differentiate: Facts Anecdotal Evidence Assumptions Extrapolation Algorithms Run multiple scenarios Two time frames: Now In 5 years 42
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Example 44
Data Sources 45
Hints 46
More Hints 47
Rules of Thumb 48