Wharton Strategic Business Planning Part 33785

STRATEGIC BUSINESS PLANNING
Welcome!
Session 3 – July 20, 2004
Instructor - Kevin Hawley

Kevin.Hawley.wg01@wharton.upenn.edu
Copyright © March 2004

Wharton Small Business Development Center
The Wharton SBDC is part of Wharton Entrepreneurial Programs and

the Sol C. Snider Entrepreneurial Research Center. The Wharton Small
Business Development Center is in part financed by a grant from the
Commonwealth of Pennsylvania, Department of Community and
Economic Development. The Wharton SBDC is funded under
Cooperative Agreement No. 4-603001-2-0040-24 by the U.S. Small
Business Administration. The support given by the U.S. Small
Business Administration through such funding does not an expressed
or implied endorsement of any of the co-sponsors’ or participants’
opinions, findings, conclusions, recommendations, products, or
services.
All SBDC programs are non-discriminatory and open to the public.

Reasonable arrangements for persons with disabilities will be made if
requested at least two (2) weeks in advance. Please contact Dr. M.
Therese Flaherty, Director, Wharton Small Business Development
Center, University of Pennsylvania, 433 Vance Hall, Philadelphia, PA
19104, (215) 898-8635.

Agenda – Session 3
 Recap from Session 2
 Where We Are and What’s Left
 Financial Plans
 Cash Flow
 Tying It All Together
 Preparation for Next Session

Recap – Session 2
 Industry Analysis
 Were you able to identify your NAICS code?
 Research? Sources? Surprises?
 Competitor Analysis
 Number and types?
 Business performance data?
 Sales Projections
 Were you able to define your sales unit(s)?
 Can you describe the reasoning behind your projections?
 Marketing Plans
 Do they closely tie in to sales projections?
 How did you select your “marketing mix”?
Session 2 Homework Review

 Develop a draft Operating Plan
 Develop draft Sales Projections
 Develop a draft Marketing Plan
 How did you do?

 Trouble spots?
 How to move forward

Where We Are and What’s Left

 Executive Summary – discussed in Session 1
 Business Description – discussed in Session 1
 Product/Service Description – discussed in Session 1
 Marketing Plan – discussed in Session 2 and tonight
 Operations Plan – discussed in Session 2 and tonight
 Financial Plan – tonight
 Funding Your Business - tonight
 Attachments/Supporting Documents – next week
 Milestone Driven Planning – next week
 Finishing your Business Plan and Next Steps – next week

Building the Business Model

Industry,
Buyer & Competitor
Analyses
Operating Plan Marketing Plan

Cost Projections Sales Projections
What will it cost to produce What will it cost to sell any given
your product or service? amount of your product or service?
Financial Plan
Pro Forma
Financial Statements
How will your business make money?
How much? For how long? Risks?

Timing Example - Operations, Marketing, and

Sales Interactions in the Financial Statements
January February March April May June
Marketing Expenses
Sales Related Fulfillment Related

Operating Expenses Operating Expenses
Operating Expenses
Revenues (Sales)
Fictional example for illustration purposes only!

Book Recommendation
The Interpretation of Financial Statements
by Ben Graham
“Highly practical and accessible, it is an essential
guide for all business people…”

The “Big Three” - Financial Statements

 Income Statement (aka “P&L”)
 Lists your income, expenses, and net income (or loss) for a
given period, usually one year.
 Balance Sheet
 A “snapshot” of the net worth of your company, listing assets
and liabilities. Important to note that balance sheets don’t
tell you about the ups and downs of the year, only how
things were as of a certain date, usually December 31.
 Cash Flow Statement/Plan
 Outlines the regular inflow and outflow of cash in your
business on a month-to-month basis.
These sections make up your “pro forma” financial statements.

Other Areas of the Financial Statement

 Break Even Analysis
 Shows at what point your company begins to make money.
 Online calculator at “http://dinkytown.com/java/BreakEven.html”
 Sensitivity Analysis
 Shows the impact of unplanned results on your business
(higher or lower costs, sales, etc.)
 Funding Schedule
 Details the amounts of money you expect to need and when
 Staffing Plans
 Details the titles, salaries/benefits, and timing of hiring for
people you’ll be adding to the company.
Financial Assumptions
 Key sales and cost drivers
 Basic information about the market and
opportunities in the environment
 Start with:
 Unit sales projections
 Prices
 Cost projections – fixed and variable
 Key drivers for each

Financial Projections
 “Pro Forma” financial statements
 Income Statement – revenue minus expenses
 Balance Sheet – assets and liabilities
 Cash Flow Statement – actual cash on hand
 Critical to you, essential to others
 Predictions of business performance
 Financing requirements
 Sources and uses of cash

Constructing Credible Financial Statements
 Important first step: educated

assumptions
 What are the key revenue drivers?
 What are the key cost & expense
drivers?

Assumptions – Revenue
 Market size and opportunity
 Number of potential customers
 Your particular business cycle
 Product/service pricing
 Sales growth curve
 Avoid the “moving hockey stick”!!!

Assumptions –
Cost of Sales/Goods Sold
 Direct inputs to delivery of service
 Direct inputs to delivery of product
 Examples: materials, parts, labor,
shipping
a/k/a – variable costs
Not your expenses
Gross Profit
+ Revenue
- COGS
= Gross Profit Margin (GPM)

a/k/a
Operating Profit = $ earned before
overhead expenses

Expenses and Cash Flow

+ Operating Profit
• salary
- Expenses • rent
• utilities
• telephone
= EBITDA • marketing
• legal
i.e., “keeping lights on”

a/k/a fixed costs

EBITDA
Earnings Before Interest Taxes
Depreciation Amortization
• a/k/a Free Cash Flow

• Businesses valued as a multiple of
EBITDA

How Much Money Do I Need?
1. Prepare detailed Income Statement

2. Then Balance Sheet
3. Then Cash Flow Statement
Monthly negative Cash Flow = operating cash
Cumulative negative Cash Flow = total needed

Balance Sheet
A “snapshot” of the net worth of your company,
listing assets and liabilities. Important to note that
balance sheets don’t tell you about the ups and
downs of the year, only how things were as of a
certain date, usually the end of the month or the
end of the year.
Spreadsheet Exercise

Cash Flow Statement/Plan

 Outlinesthe regular inflow and outflow of cash in
your business on a month-to-month basis.

EXAMPLE: Startup Jewelry Distribution

Business
How much do they need?
MONTH
($000) 1 2 3 4 5 6 7 8 9 10 11 12 TOTALS
Revenue 0 0 0 0 0 3 3 7 7 38 38 42 138
Expend- 17 5 8 8 9 9 11 19 19 33 42 40 220
itures
Cash Flow (17) (5) (8) (8) (9) (6) (8) (12) (12) 5 (4) 2 (82)
Cumulative (17) (22) (30) (38) (47) (53) (61) (73) (85) (80) (84) (82)

Income Statement (aka “P&L”)

 Lists your income, expenses, and net income (or
loss) for a given period, usually one year.

Break Even Analysis

 Shows at what point your company begins to
make money.
 Online calculator at
“http://dinkytown.com/java/BreakEven.html”

Sensitivity Analysis
 Shows the impact of unplanned results on your
business (higher or lower costs, sales, etc.)

Funding Schedule
 Details the amounts of money you expect to need
and when
 Typically tied to milestones and achievements
 Allows investors to decide on a commitment level
January 2004 - $250,000 for start up expenses

June 2004 - $75,000 for advertising and marketing
March 2005 - $175,000 for expansion to 2nd location

Staffing Plans
 Details the titles, salaries/benefits, and timing of
hiring for people you’ll be adding to the company.
Title Hire Date Salary Benefits Bonus Total Expense
President January-04 $80,000 $26,400 $15,000 $121,400
Machine Operator January-04 $35,000 $11,550 $2,000 $48,550
Machine Operator April-04 $35,000 $11,550 $2,000 $48,550
Shipping Clerk April-04 $24,000 $7,920 $1,200 $33,120
Salesperson June-04 $30,000 $9,900 $3,000 $42,900
Salesperson June-04 $30,000 $9,900 $3,000 $42,900
Salesperson October $30,000 $9,900 $3,000 $42,900
Totals $264,000 $87,120 $29,200 $380,320

- 10 Minute Break -

Funding Your Business

 Types of Investors
 Venture Capital and Angel Investors
 Valuation of Early Stage Companies
 What You Give for What You Get - Examples
 Alternative Sources of Funding for Your Business

Getting to the Investment Requirements

and Pre-Start Valuation
 Draft the business plan narrative sections – tell your
story!
 Run the numbers – does the story hold up?
 Income Statement
 Balance Sheet
 Cash Flow Statement/Plan
 Determine funding needs from the Cash Flow Projections
 Examine “pro-forma” EBIDTA projections at 5 years
 Determine if the ROI fits the Angel Investor targets
 If so, begin “pitching your plan” to prospective investors!
 If not, you can either rework the plan, or…
 Go to alternative funding sources and/or self-fund the
plan Copyright © March 2004
Comparing Venture Capital and

Angel Investors
Venture Capital Firms Angel Investors
 Typically do not  Provide about 90%
invest in start-ups of the seed and
 Responsible for early stage outside
about 10% of all equity capital for
start-up funding start-up
entrepreneurs
Source: Ewing Marion Kauffman

Foundation – www.emkf.org

Angel Investors
 Operate like mutual  Loosely formed
fund companies groups or wealthy
 General partners individual investors
such as managers,  “Tried and true”
analysts,etc. entrepreneurs
 Limited partners are  Typically have
pension funds, invested in several
corporations, etc. companies

Angel Investors
 Typically invest in  Typically invest in
rounds valued at rounds valued
$7MM or more between $250K and
 Average investment $2MM.
in the $2MM range  Average investment
 Later stage interest per individual of
$25K to $250K

Angel Investors
 Invested ~$20B in start-  Invested ~$30B in start-
ups last year ups last year
 About 3,000 deals  About 50,000 deals
 About 700 investors  400,000 investors
 Averaged about $7MM  Averaged about $750K
per round per round
 2 or 3 investors per  6 to 10 investors per
round round
Venture Capital and Angel Investors

Stage Later stage Early stage
Primary Interest The Business The Individual
Control Level Significant Control Support and Influence
Assistance Executive Team Selection Hands-on Advisor

Provided Financial Management Networking Help
Process Length 6 to 12 months 2 to 4 months
Exit Timeline 3 to 5 years Up to 10 years
Where they Invest Regional/National Strictly local

How Angels Evaluate Start-ups…

The Management Team’s experience, intelligence, drive, and
personalities are typically the most important criteria for Angel
Investors, followed by the overall size of the opportunity.
Quality of the management team………… 0-30%

Size of the opportunity…………………….. 0-25%
The product or service…………………….. 0-10%
Sales channels…………………………….. 0-10%
What stage the business is in……………. 0-10%
How much money you’re trying to raise….. 0-5%
Need for funding in future rounds…………. 0-5%
Quality of your business plan……………… 0-5%

Valuation of Pre-Start Companies

The typical Angel Investor opportunity looks like this:
Total amount of money raised $250,000 to $1,000,000
(raised in total from multiple angel investors)
Pre-start value of the company $1,000,000 to $4,000,000
Amount of ownership (percentage) 20% to 40%

taken by Angel Investors
Expected ROI in five years 30X return on investment
“Real world” performance; how many About 10%

Investments in start-up companies
actually return between 10X and 30X?
Valuation Walk-through - Example 1

Here’s how a deal might be structured:
Total amount of money raised $250,000
Total number of Angel Investors 5
- Amount invested per Angel Investor $50,000
Expected 5-year return on investment $7,500,000 (30X)
Pro forma 5-year EBITDA estimate $5,000,000

Valuation (comparable) multiple* 6 times earnings
Projected 5-year value of company $30,000,000
Ownership percentage required by Angel

Investors at five-year exit horizon 25%
Current (pre-money) valuation of company $1,000,000

* alternatively, does 1x revenue in Year 5 equal 30x investment?
Where the Numbers Come From…

Total amount of money needed/raised $250,000 - Cash Flow Projections
Total number of Angel Investors 5 - Based on avg. AI investment
- Amount invested per Angel Investor $50,000 - Specific AI profiles
Expected 5-year return on investment $7,500,000 (30X) – Roughly 100%
ROI per year
Pro forma 5-year EBITDA estimate $5,000,000 - Income Statement

Valuation (comparable) multiple 6 times earnings - Industry research
Projected 5-year value of company $30,000,000 - multiply
Ownership percentage required by Angel 25% - Projected 5-year value of the

Investors at five-year exit horizon company divided by the AI’s expected
5-year return amount
Current (pre-money) valuation of company $1,000,000 - Amount of money raised

divided by the AI’s required
ownership percentage
Expected Return Depends on Time To Exit/Harvest…

Expected 5-year return on initial $7,500,000 (30X)
$250,000 investment Roughly 100% ROI per year
End of Year 1 - $250,000 plus 100% return = $500,000 (current value of investment)
End of Year 2 - $500,000 plus 100% return = $1,000,000
End of Year 3 - $1,000,000 plus 100% return = $2,000,000
End of Year 5 - $4,000,000 plus 100% return = $8,000,000 (32X)
And so on… every $1 invested 10 years ago turns into $1,024!!!


Here’s an example of a “no go” for angel investors:
Total amount of money needed $250,000
Total expected 5-year return on investment $7,500,000 (30X)

Valuation (comparable) multiple 6 times earnings

Current (pre-money) valuation of company --


Can you find the potential problem in this example?
Total amount of money needed $1,000,000


Investors at five-year exit horizon 41.67%


Can you find the potential problem in this example?
Total amount of money needed $300,000



Finding Angel Investors…

Starting points for finding Angel Investors and other resources…
 Wharton SBDC Website

http://whartonsbdc.wharton.upenn.edu
 Innovation Philadelphia
http://www.IPphila.com
 Inc.com (“Inc. Magazine”) Website

http://www.inc.com/guides/finance/20797.html
 Google Search Engine

Enter these terms - “angel investors” Philadelphia

Alternative Funding Sources…
 Suppliers and Customers

 Personal Funds and “Bootstrapping”
 Friends and Family
 Private Equity
 Debt

Suppliers and Customers
 Suppliers allowing deferred payments

 A “float” from suppliers
 Customers offering advance payment
 Advance ordering and order guarantees
If you don’t ask, you won’t know if you can get it!

Personal Funds and “Bootstrapping”
 Cash savings
 Converting assets
 “Sweat equity”
 The “apple cart” approach
Try to think like an impartial investor even when

ESPECIALLY when using your own money!

Friends and Family
 Traditional startup funding sources

 The investment they make is in YOU!
 Business metrics usually less important
 Usually a higher tolerance for problems
Written agreements still very important! Consider

the potential impact on relationships if the business
is not successful and the investment is lost!
Private Equity
 Sophisticated “Angel Investors”
 Professional investors – typically take a
sole investor position in startups
 Minimal margin for error and a low
tolerance for underperformance
 Generally reserve the right to replace the
management team if projections aren’t met!
 Contracts tend to be complex with lots of strings
attached to investment
Talk with other companies they’ve invested in!

Debt Financing
 Local banks
 Small Business Administration loans
 Credit cards
 Borrowing against home equity
 Borrowing against insurance policies
 Borrowing against your retirement IRA
Be aware of the risks and consequences!

Rules for External Financing

Rule # 1 – Try to use other people’s money (OPM)
Rule # 2 – Let your customers and suppliers finance the

business to the greatest extent possible
Rule # 3 – Use money you can afford to lose or can

emotionally handle losing
Rule # 4 – Get money as inexpensively as possible
Rule # 5 – A smaller percentage of something big is worth

more than 100% of nothing!
Rule # 6 – Seek advice from advisors, i.e. lawyer,

accountant, consultants, family, etc.
Homework Assignments
 Develop a draft Financial Plan
 Use the discussions from this evening to build a integrated
financial plan for your business.
 Revise and refine Financial Projections
 Based on your operating, marketing, and sales expenses,
how much money will the company need to get started, what
are your cash flow projections, and how much money will the
business make and when?
 Complete the Operating Plan
 Go back into your narrative plan and adjust your story based
on the realities of your financial plan.
Questions about the assignments?

Next Session (Session 4)

 Attachments and Supporting Documents
 Other things to include in your blockbuster plan
 Milestone Driven Planning
 How to stay on track and build confidence among investors
 Bringing It All Together
 We’ll walk through plans from participants in our class, discuss
strength’s and weaknesses, try to highlight areas that need
additional work. We’ll use the templates from Sessions 1-3 to
evaluate the plan.
 Next Steps
 Staying focused, accessing additional SBDC resources, finding and
using an expert advisory board.
See You Next Week!


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STRATEGIC BUSINESS PLANNING

Instructor - Kevin Hawley

Copyright © March 2004

The Wharton SBDC is part of Wharton Entrepreneurial Programs and

All SBDC programs are non-discriminatory and open to the public.

Copyright © March 2004

Copyright © March 2004

Session 2 Homework Review

 How did you do?

Copyright © March 2004

Where We Are and What’s Left

Copyright © March 2004

Building the Business Model

Operating Plan Marketing Plan

Copyright © March 2004

Timing Example - Operations, Marketing, and

Sales Related Fulfillment Related

Fictional example for illustration purposes only!

Copyright © March 2004

Copyright © March 2004

The “Big Three” - Financial Statements

These sections make up your “pro forma” financial statements.

Other Areas of the Financial Statement

Copyright © March 2004

Copyright © March 2004

Constructing Credible Financial Statements

 Important first step: educated

Copyright © March 2004

Copyright © March 2004

= Gross Profit Margin (GPM)

Copyright © March 2004

Expenses and Cash Flow

i.e., “keeping lights on”

Copyright © March 2004

• a/k/a Free Cash Flow

Copyright © March 2004

How Much Money Do I Need?

1. Prepare detailed Income Statement

Monthly negative Cash Flow = operating cash

Cumulative negative Cash Flow = total needed

Copyright © March 2004

Copyright © March 2004

Cash Flow Statement/Plan

Copyright © March 2004

EXAMPLE: Startup Jewelry Distribution

Copyright © March 2004

Income Statement (aka “P&L”)

Copyright © March 2004

Break Even Analysis

Copyright © March 2004

Copyright © March 2004

January 2004 - $250,000 for start up expenses

Copyright © March 2004

Copyright © March 2004

Copyright © March 2004

Funding Your Business

 Valuation of Early Stage Companies

 What You Give for What You Get - Examples

 Alternative Sources of Funding for Your Business

Copyright © March 2004

Getting to the Investment Requirements

Comparing Venture Capital and

Source: Ewing Marion Kauffman

Comparing Venture Capital and