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Learnin's From My MBA Part 24: Chapter 3: Drafting a Business Plan, Part 8: Building a Financial Plan


This is Part 8 in a series that discusses the drafting of an effective business plan for use in promoting a scientific idea or start-up company to the business community. Each month, a different section of the business plan is discussed. This week, we discuss the Financial Plan--the part of your business plan that describes how you're going to finance your company and how much it's going to make.

In the last seven parts of this series, our plan has really come together. We've figured out how we're going to start our company, what we're going to sell, and how we're going to sell it. This week, we deal with the topic first and foremost in any investor's mind: the money.

The financial plan projects how much money the company will need in order to become a profitable business. This requires the entrepreneur to think about not just how much money they need right now, but how much money they'll require in the future, and when. In order to determine this, the entrepreneur will have to make vast assumptions about how much time it will take to get key scientific results such as a proof or principle or a first working prototype. As every scientist knows, this estimate is very difficult to make--a perfect example of this is the varying length of time it takes to do a Ph.D. Nobody really knows in advance whether an experiment will be successful or not--that's why you do them. But just like building a comprehensive scientific plan should be a part of the organization of any Ph.D., it should also be a part of building the financials of a company. Otherwise, how are you going to figure out how much the next 3 years of "experiments" will cost if you don't know what those experiments will even be?

Once you've determined the experiments you're going to require for the next few years, you've got to figure out how much they're going to cost. Building this budget isn't easy, but it's a necessary part of your financials. Typically, budgets in business plans are quarterly or annually, but you should have monthly budgets available as well, because many investors will want to see them. The amount of time these budgets go forward depend a great deal on the business you're in: I've seen plans for technology-based businesses that only go out 2 years, but a typical drug development plan will need to go out at least 4 years. The amount of time going forward you'll need in your budgets is going to depend on how much time you'll need before your company is a profitable and self-sufficient business.

The other side of the business plan financials is the anticipated revenues. Chances are, these revenues are a few years out, and highly variable, but you should still take the time to figure them out. Even if you anticipate "millions and millions of dollars" because you'll have a cure for cancer, you still need to figure out how many millions. This is because financiers use your revenue stream to determine how much your company will be worth a few years down the line, if everything goes according to plan. Then they discount that value, depending on the amount of time it will take to get there, and how many risks are involved along the way. So even though it seems far off, a $10 million difference in revenues 5 or 6 years from now is going to make a big difference--sometimes as much as millions of dollars--in the value a company will be given today. The higher a valuation you can convincingly give your company, the less equity you'll have to pay for the cash you need to get the company off the ground. For example, you may only have to give up 30% of your company, instead of 35%, for the $5 million you need to start your company right. And that extra 5% will mean a whole lot when your company is successful, so it's better left in your pocket than in someone else's.

There are three other things to remember when you're building your financials in your business plan. The first is that your financials should be consistent with the rest of the plan--specifically, with your description of your product, and with your marketing strategy. If, in your marketing plan, you've determined that there's a $50 million market for your product, and that you'll be taking 40% of that market over the next 5 years, those same assumptions should be built into your finance statements. If they're not, your whole plan will likely be tossed out.

The second is that you should present the financial statements in a way investors and banks will understand. Therefore, you're going to need projected balance sheets, income statements, and statements of cash flow, at the very least. If you don't know what these are, take a look at some of the earlier articles in this series. If you still have doubts, get an expert (such as an accountant) to draft the final copies for you, based on the budgets and assumptions you've worked out. Remember, investors like to see these statements written in their own language, not yours, and there are a lot of good business reasons for keeping them consistent with the rest of the business community.

The final thing to remember when you're building your financials is that, if anyone is interested in investing in your company, the financials are where your negotiations will start. Before you sit down and finalize this section, figure out how much money you want, where your starting negotiating position is, and what you're willing to give up in order to get that money. This shouldn't be spelled out in the text, but rather, the reader should be able to come to the same conclusions you have (about the value of your company) based on what's laid out in this part of the plan. But don't be outrageous in your claims: The financials need to be defensible, because the first thing the investor will do is pick them apart, in order to lower the valuation, and get a "better deal." Remember that this is the section the investor will likely feel most comfortable discussing. Picking it apart is part of the negotiation process--a process that deserves a whole series on its own. But the bottom line is, if you've hurriedly put together the financials, you're going to get slaughtered at the negotiating table. So take good care with this section. It's what makes you a credible businessperson in the eyes of the investors.