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Finance Plan: Definition and Benefits

Finance plan is a projection of the company’s future income and expenses, which are calculated with the help of a profit & loss statement (income statement), cash flow statement (liquidity) and budgeted balance sheet (use and origin of financial resources).

The finance plan thus provides important information about the success and potentials of the company, as well as about its available capital – not only for investors and banks, but also (and perhaps primarily) for its founders and managers. It enables thoughtful decision-making on possible courses of action, through an analysis of the influence of various revenues & cost developments or diverse financing scenarios (e.g. with or without an investor) on business development.

The finance plan is often designed on a monthly basis for 3-5 years. It should include an annual budgeted balance sheet. Every finance plan should answer the following key questions:

1. What revenues are expected in the future and why?

Revenue planning involves estimating how many products or services can be sold and delivered in each month.

The possible sales quantity depends on how many customers are interested in the product and are willing to pay its demanded price. The business model with its value proposition and pricing strategy plays a central role here.

Every product or service delivery triggers costs, which brings us to the next question:

2. What costs are expected?

Any entrepreneurial activity involves costs. These costs can be generally divided into capital expenditures (CapEx – Capital Expenditures) and operating expenditures (OpEx), the sum of which is total expenditures (TOTEX).

Capital Expenditures

Capital expenditures are one-time investments in fixed assets. Depending on the industry, these can be machines, real estates (for production or administration) or operating and business equipment.

For a new business, capital expenditures include also company foundation costs and development costs. (For clarification, R&D expenses are treated differently for accounting purposes than investments in machinery and equipment).

Operating Costs

Operating costs are all costs incurred in the operation of the business. These primarily include:

• Product specific costs: raw & auxiliary material costs, manufacturing or procurement costs of the products, energy costs, maintenance costs for machinery.
• Costs of goods delivery (shipping & logistics)
• Personnel costs, incl. contractor’s wages
• Administration costs
• Occupancy costs
• Marketing & sales costs and customer service costs
• Financing costs, e.g. interest costs of the financing
• Other costs, e.g. consulting costs and insurances

The amount and timing of the aforementioned costs should be planned as realistically and honestly as possible. Since many of the costs are industry-specific, planning can be challenging due to the lack of available information or the lack of personal experience. Here, you can look to similar industries for guidance, or get expert assistance in creating a finance plan.

3. How profitable is the company and its individual products?

Profitability is one of the most important aspects of any company, and therefore central to finance planning. Only companies that are profitable in the long run, i.e. those that at least cover their costs, will survive.

Company profitability is evaluated with the help of the profit and loss statement (P&L). The P&L correlates the income and the expenses (i.e. the answers to questions 1 and 2) for a certain period of time and thus shows us the type, origin and magnitude of the finance success.

In the so-called function of expenses method, the P&L statement has the following structure:

Revenues from sales
-Cost of production (incl. depreciation and amortization)
= Gross profit
- Marketing and sales costs
- General and administrative expenses
= Operating result (EBIT)
+ depreciation and amortization
= EBITDA (Earnings Before Interest, Taxes, Depreciation and Amortization)
- Depreciation and amortization
- Interest and similar expenses
= Earnings before taxes (EBT)

From the P&L structure we can see that different cost groups are deducted from the sales revenue in order to determine profitability at different levels. For example, gross profit tells us how much money is left from sales after the direct costs of goods have been paid.

In terms of profitability, the finance plan gives us other important information:

• Timing of achieving profitability: what are the minimum sales in order to be profitable. Depending on the sales and cost plan on a monthly basis, we get an estimate of how long it will take to reach break-even point, i.e. the point at which the company’s revenues equate its total costs.
• Profitability of each product: the finance plan should include an evaluation of profitability at the product level in order to make decisions regarding product strategy. Ultimately, you want to identify the loss-making products as early as possible in order to either change or abandon them.
• The level of profitability and the break-even point are important parameters for any financing discussions: with banks, as well as with investors or funding agencies.

4. When do I need money and how much money I need?

Liquidity planning is, next to profitability, the second central pilar of any finance plan, because the highest profitability is worthless if you have no money in your bank account.

Liquidity planning does not show the profitability of income and costs, but only the respective time and amount of payment. In addition, the inflow of capital from investors or from loans is recorded, just as the outflow of capital through withdrawals from shareholders or repayment of loans (note: these payments do not affect the income statement in each case, so they are not represented in the income statement).

With regard to liquidity, the finance plan provides us with further important information:

• Peak capital requirements from investments or large orders: these requirements may need to be offset by external capital providers (banks and investors).
• Payment bottlenecks from deliveries of goods, which can be avoided by negotiating payment terms or using purchase or sales financing.
• Total capital requirements up to the point when the company is cash-flow positive — an important piece of information for any investor.

In professionally prepared finance plans, the profit & loss statement and the liquidity plan are enhanced with a budgeted balance sheet, a factor that makes the plan integrated. This sheet not only verifies the mathematical correctness of the P&L and liquidity plan, but also records the development of the individual balance sheet items, i.e. the use and origin of finance resources. Of particular importance to any funding rounds are the development of equity vs. debt capital, development of inventories, working capital and fixed assets.

5. What assumptions underlie the finance plan?

The integrated finance plan is quite extensive after the elaboration of all 3 components: P&L, liquidity plan, and budgeted balance sheet. It is important to summarize the central planning premises and to present these planning assumptions in a comprehensible way when communicating with investors and lenders. It is natural for any investor to ask the question, “How did you come up with these numbers?”

Further, a good understanding of one’s planning assumptions allows for the development of planning scenarios. Scenarios of the type: ‘Worst Case — Base Case — Best Case’, or scenarios that take into account the specific challenges of the business model are useful instruments for enhancing the business model.

Finance plan – too complicated? We support you!

Let’s face it: finance planning is not the favorite topic of most founders! Rather, the elaboration is postponed, the necessity is suppressed, and the updating is forgotten. The reasons for this are manifold:

• Lack of knowledge or experience in preparing a finance plan.
• No time for this topic, because product development and operational tasks already fill the day.
• Uncertainty of the individual planning premises, given the insufficiency of real experience values.

We, at the Startup CFO, are happy to help and support you on this complex topic. You can find our services here.