Financial Projections — Key to Business Financing

Wednesday, January 08 at 08:10 AM
Category: Business Banking

A business seeking capital must recognize the importance of financial projections. A business financial projection is simply forecasting your sales and revenue to the lender. This information is important because it is a key indicator of your ability to repay a loan.

If you are unsure about financial forecasting for your business it might be best to hire a consultant. Most lenders will want to see a three- or five-year projection and there are as many as 14 items to include and fully support in your financial projection. You may also be asked to give a month-by-month breakdown for the first year, a quarterly breakdown for the next two years, and an annual breakdown for the final two years in your forecast.

The items to include in your projections are: sales revenue estimates, administrative costs, production costs, sales costs, capital expenditures, gross margin by product line, sales increase by product line, interest rates on debts, income tax rate, accounts receivable collection plan, accounts payable schedule, inventory turnover, depreciation schedules, and the usefulness or depreciation of assets.

The income projection enables the business owner to develop a preview of the amount of income generated each month and for the business year based on industry supportable predictions of monthly levels of sales, costs and expenses. When determining the total net sales you will be finding out how many units of products and services you expect to sell at the prices you are projecting. Make sure to think of what returns, allowances and markdowns can be expected.

The sales costs need to be calculated for all products and services used. Ensure that when determining the costs of sales you don't forget anything such as commission paid to sales representatives, transportation costs or any direct labor costs.

Your gross profit will be determined by subtracting the total cost of sales from the total net sales. The gross profit margin is the gross profit divided by the total net sales. This will be expressed as a percentage of total sales or revenues.

When formulating your business financial projections there are several pitfalls which could hurt your chances of being approved for business financing. The first one is wishful thinking or being over-optimistic about your sales potential. Ask yourself, "Is it possible to achieve the sales levels I’m forecasting?" For example, a sales team can only visit a certain number of customers each week or a factory can only manufacture a given amount of products on each shift. Make sure your projections are realistic and, even more important, based on supportable evidence. It is also imperative to make sure your sales assumptions are linked directly to your sales forecast or your information will contradict itself. Most lenders are "by the numbers", so if your numbers don't add up, you will be more likely declined. A good example of this is to say you expect increased sales in a market that is declining. That just does not add up.

Another thing to not do when projecting your business finances is to spend a lot of time refining the forecast. Try to avoid tinkering with the target numbers once they are set. Many business owners neglect to ask the opinions of the sales people who know your buyers' intentions and have an ear to the ground on market conditions. It is important to make sure your sales team agrees on any sales targets that will be set. One other fatal mistake made by business owners when working on financial projections is not getting feedback on the projections from a qualified consultant or accountant. When it concerns financing the success and growth of your business, there may be too much at stake to not go the extra mile.

The views of this article are for general information use only. Please contact a subject expert or your banker when specific advice is needed.

Tags: Arvest Biz, Business Banking, Lending and Financing
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