Every business plan has them, and they belong in the fiction section of the library. Like romance novels, you can usually see what’s coming: we’ll lose some money in the first year, approach break even in the second year, and then (gasp) become profitable in year three. And the business lives happily ever after, achieving greater profitability with each passing year.
Unfortunately, things don’t turn out that way. Most businesses take longer to reach profitability, and many never do. Sometimes things get better, then get worse, and then sometimes (with much effort, further investment and some luck), get better again.
While financial projections should not be confused with reality (after all, they are guesses), it is possible to come up with some reasonably credible numbers. Here’s how:
- Do your homework. Build your case through solid research, not visualizing reality or plugging in the standard “profitable by year three” formula. Gather industry data, talk to experts in the field, study annual reports, read the trade press. Figure out your market segments. Do this research yourself or hire a consultant.
- Make it simple. Start with the key metrics for your business. Number of paying customers and average purchase. Hourly production rates. Cost to acquire a customer. Profit margins. Also, keep your financial projections to two pages; too much information is bad for fiction and nonfiction.
- Support your numbers. Justify your key numbers with notes indicating where they came from or how they were calculated, so someone could independently verify them.
- Adjust your thinking. If the numbers don’t work out, revise your business model, not the numbers. Consider the possibility that your great idea might not be such a great idea.
Remember that while starting a new business always involves imagination, you’ll better set yourself up for success if your financial projections are realistic, rather than romantic fiction.
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For more resources, see our Library topic Business Planning.
Your post really scratched an itch for me. I’ve been involved in probably 25 business planning processes. The financial projections were always a frustrating “funny money” exercise for me, where the clients got so dreamy I had to keep pulling them back to Earth again. Next time, I’ll refer them to your post. Thank you!
I have supported lot of business plan undertakings too. In most cases, a huge free cash pile is projected starting from year 3+. My suggestion is always to go out with most pessimistic scenario and be happy if it’s not happening..