Writing a Business Plan mentor Rhonda Abrams responds:
Rhonda's rule: Numbers reflect the decisions you make.
One of the biggest challenges for a new company doing a business plan is figuring out the financial statements. If you have an existing business, you have a pretty good sense of how much things will cost, how much staff you'll need, and the sales you're likely to make. But when you're just starting out, these things seem a complete mystery.
They're not. At least not entirely. Every decision you make when planning your business has a number attached: If you choose to exhibit at a trade show, there's a cost associated with that; if you choose to locate your business in one town versus another, there's a cost associated with that.
The trick is to create your financial projections from the "bottom up" rather than the "top down."
Top-down numbers may be enticing to work with because they always come out looking good. To get top-down numbers you look at the big picture -- total market size, growth rate, average sale, average profit margins, etc. These numbers are typically found through demographic, industry, and research data.
You then make what seem to be reasonable assumptions, like achieving a 10% market penetration, improving margins by 2%, etc. You then fill in each line of your financial statement to make the totals come out to the big numbers projected. The result: You come up with some exciting numbers -- the kind that make you and investors excited.
It's just that these numbers don't have much to do with reality. And they can't be defended when investors ask tough questions.
Instead, the best financials are developed from the bottom up. You get these numbers by planning your business -- and you do business-building legwork: examine different distribution channels and the opportunities and costs in each, source manufacturers and suppliers, develop a staffing chart and attach a reasonable salary to each of those, etc.
How do you do this homework? The best place to start is by speaking with others in your industry, attending trade shows, and contacting your industry association. Another excellent source is the RMA Annual Statement Studies, which look at actual financial statements of companies in certain industries. You can find these at the RMA Web site.
Then you plug these numbers into your financial statements. You have to work harder to get bottom-up numbers -- and they're not as thrilling as top-down projections -- but they're a lot more real. And you learn your business while you put them together.