Guestpost: “What I Look for in a Financial Plan”

Following is guest-post #3 by David Kirk:

I’ve been asked on dozens of occasions to explain what I look for in the financial projections of a business plan.  It may be useful to explain here, hoping that it can avoid some angst amongst you entrepreneurs out there.

However, I have to add a big caveats here, since I am certain this will contradict may things your be “taught”, this is, after all, only my opinion.

To start with just a few bullets:

• Five year financials please.  Really, I don’t expect an exit after three, and I’d sooner take another couple of years and get a better exit value.  And, the revenue in Year-5 is the definition of the company size, not the sum of all years revenue.
• I don’t need to see monthly numbers.  That’s confusing accuracy with precision.  Yearly is fine.
• I always calculate two sets of ratios; Year/Year growth, and the major accounting categories as a percentage of revenue.  The major accounting categories are; COGS and hence gross margin (only if hardware is involved – PLEASE its mostly useless for software), cost of sales, marketing, R&D, G&A and EBITDA).  It really helps if these are in the financials.  It’ll save me calculating them.
• Don’t really care about the balance sheet unless there’s something on there I need to know about (e.g. some convoluted debt).  Quick Books can spit this out in a very brain-dead fashion.
• Neither do I need to see Cash Flow.  I’m going to assume your asking for enough funds that you will NOT be going into a negative balance?

Personally I have no idea how a business will actually perform outside twelve months, and perhaps even only on a quarter-by-quarter basis.  So many people are intimated by putting together a five year forecast.  Its actually very easy.  I look for “operational integrity” in Year-1.  That means I expect a bottoms up model that, for example, calculates revenue by the actual number of sales reps * quota, expenses from the actual number of employees * salary + benefits, the actual commission on the actual calculated sales.  In short, how the business model REALLY operates.  IMO, if you can’t model it you don’t understand it

After that, Year-2, 3, 4, and 5 are simply Y/Y growths from Year-1 – but with different linearity/variability depending on the expense category – with a top-down approach.  For example, if revenue in Year-2 is derived from a Y/Y growth from Year-1, then that can derive the actual number of sales reps.

Tip.  Revenue growth is THE most important indicator of an aggressive but achievable operations.  I look for a yearly growth curve that I’ve seen to be achievable.  Something like:

Year 2 / Year 1 is x5-x7

Year 3 / Year 2 is x3-x3.5

Year 4 / Year 3 is x2-x2.2

Year 5 / Year 4 is x1.7-x1.8

The point is that the fastest growth must be in the early years when the base is smaller.  No hockey sticks.

You can find out more about David Kirk here.