Establishing Financial Needs and Building a Financial Plan presented by Hal Etterman January 27, 200

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EstablishingFinancial Needs and Building a
Financial Planpresented byHal
EttermanJanuary 27, 2005San Jose, California
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Entrepreneurial Executive
Speakers Background

• Startup Experience (12 years)
• Medical Device Manufacturer
• OEM PC Board Developer
• 3 Software Firms
• Major Employers (17 years)
• Siemens
• Philips Data Systems
• Olivetti Corporation
• Positions Held
• CFO, COO CEO (10 years)
• Division Controller (6)
• Info. Tech. Manager (8)

• Industry Experience
• Medical Devices (10 years)
• Information Systems (10)
• Homeland Data Security (4)
• Software Development (4)
• Functional Experience
• Venture Capital Fund Raising
• Business Development
• Entrepreneurial Mentoring
• Sales Marketing
• Finance Operations
• Education MBA BSBA

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Todays Topics

• Back of the Envelope Planning
• Details Expected by Investors
• Developing Professional Financials
• Tips on Building Financial Projections

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This is NOT a Course in Accounting, Finance or E
xcel
Its about how to PLAN like the Pros
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Whats Your Stage of Business?

• Pre-Seed Feasibility Stage
• Seed Proof of Concept
• Prototype Series A Funding
• Launch Series B Funding
• Ramp Up Series C or more
• Growth IPO or MA
• Have to Do Financial Planning
• in Order to be Successful
• in Business !!

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Business Plan Financials

• Financials Define Business Goals
• Future Revenues Profit Financial Goals
• You Will be Measured by These Goal
• Financials Biz. Plan Must Be in Sync
• It Takes Time to Get the Numbers Right

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Marketing Plan
Sales Services Plan
Product Development Plan
The Planning Control Process How It All Tie
s Together
Personnel Plan
Sales Pipeline Management
Financial Plan
Bookkeeping Application
Stock Option Plan
Budget Variance Reporting
Capitalization Plan
KPI Reporting
Valuation ROI Analysis
Executive Dashboard Scorecards
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Back of the Envelope Projections

• Assume
• Units Sold 10,000 (per
  Month, per Quarter per Year)
  
• Price per Unit 500
• Cost per Unit 300
• 1. Sales Units X Price 5,000,000
• 2. Cost of Goods Sold Units X Cost
  3,000,000
  
• 3. Gross Margin Sales COGS
  2,000,000
  
• Selling Expenses 25 X
  Sales 1,250,000
  
• Engineering Expenses 15 X Sales
  750,000
  
• GA Expenses 10 X Sales
  500,000
  
• 4. Total Expenses Selling Eng. GA
  2,500,000
  
• 5. Net Profit / (Loss) Gross Margin
  Expenses (500,000)
  
• Does This Business Make Sense?

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Ready to Raise Money?

• Developed Product Prototype?
• Refined Business Model?
• Prepared Executive Summary?
• Written the Business Plan?
• Mastered Investor Presentation Pitch?
• and
• Financial Projections ???

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How Much Detail Is Needed?

• Presentations Very High Level 50,000 Feet
• Business Plan High Level 10,000 Feet
• Financial Plan ALL the Details Sea Level

Too LITTLE Information Raises More Questions Tha
n You Have Answers Possibly Raise Doubt - Not
Money!
Too MUCH Information Overwhelms the Reader and D
ilutes Impact of
Most Important Financial Goals
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Investor Materials

• Elevator Pitch
• Executive Summary
• Business Plans
• Public Presentations
• VC Presentations
• Financial Plans

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A Simple Elevator Pitch
View from 100,000 feet

• Im with NewCo, an emerging company in ABC
  industry.
  
• We are looking to raise 1 million in Round A
  funding to
  
• Launch our product into the 10 Billion New
  Solutions market that is . . .
  
• Underserved by only 2 firms that infringe our
  patents.
  
• Would someone you know be interested in taking a
  look at this?

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The Executive Summary
View from 75,000 feet

• Financial Information
• When Company was Founded
• Actual Projected Sales
• No. of Employees Today
• Accessible Market Size
• Customer Value Proposition
• Amount of Funding Sought

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Public Presentations
View from 60,000 feet
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The Investor Presentation
View from 50,000 feet
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The Business Plan
View from 10,000 Feet

• Financial Information
• Pricing Strategy
• Accessible Market
• Amount Funding Sought
• Class of Stock Being Sold
• Use of Funds
• Financial Highlights

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Financial Executive Summary
View at the Sea Level

• Income Statements
• Revenues COGS by Product
• Expenses by Department
• EBITDA
• Balance Sheets
• Cash Accounts Receivables
• Fixed Assets and Other Assets
• Liabilities Owners Equity
• Cash Flow Statements
• Net Operating Cash Flow
• Net Financings Cash Flow
• Net Changes in Cash
• Key Business Metrics
• Units Sales Growth Rates
• Revenues per Employee
• Burn Rates

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Detailed Financials
View at the Sea Level
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Monthly Financial Schedules
View at Sea Level
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Professional Financials Shows
You Too Can Swim with the Sharks

• Right Look Goes a Long Way Capturing Investors
  Attention
  
• Your Plan will be Regarded with Professional
  INTEREST and RESPECT
  

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Numbers You Should Know

• Cash Burn Rates Gross Net
• Breakeven Point Units Sold
• Runway or Time before Out of Cash
• When Positive Cash Flow Starts
• When Profitability Starts
• Capital Expenditures Required
• No. Rounds of Funding
• Amount of Funding Required
• . . .

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Financial Projections

• Essential Element of Business Planning
• is Estimating Future Financial Requirements
• Internal Financing comes from CASH FLOW from
  Normal Business Operations
  
• External Financing comes from FUNDS from
  Outside Sources VCs, Banks, Grants, etc.
  
• The Problem is this
• How Much External Financing is Needed?

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Money - Its All About Timing

• Balance Sheets Amount of Wealth at
• One Point in time.

Balance Sheet As of Sept. 30, 2004
Balance Sheet As of Dec. 31, 2004
Income Statement For the Period From Oct. 1, 2
004
to Dec. 31, 2004

• Income Statements Flow of Wealth between Two
  Points in time
  

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The Basic Accounting Equation
BASIC MODEL
EARLY STAGE
YOUR GOAL
Maximize
Revenues Expenses Profit
Maximize
Maximize
Assets Liabilities Owners Equity
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The Income Statements
Sales by Product Cost of Goods Sold by Product
Gross Margin by Product Expenses by
Department
EBITDA
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The Balance Sheet
Most Common Assets Fixed Assets Most Common
Liabilities Retained Earnings Owners Equity


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The Cash Flow Statement
Adjustments for Non-Cash Activities
Owed by Customers Owed to Suppliers Lo
an Pay Back
Balance Sheet
From the Income Statement Cash Used for F
ixed Assets
Cash from VCs and Banks
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Building the Financial Model
Financial Plan!
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What is a Model or Pro-Forma?

• Dictionary Economics Business MODEL
• Consideration of Quantifiable Factors which may
  be
  
• Either Variables or Constants and the
  Construction of Relations
  
• Among Them that may be Expressed in the Form of
  Equations.
  
• Barrons MODELING
• Designing and Manipulating a Mathematical
  Representation of
  
• a Corporate Financial Application so that the
  Effect of Changes
  
• can be Studied.
• Barrons FINANCIAL PRO-FORMA
• A Presentation of Data where Certain Amounts are
  Hypothetical

Guessed
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Which Way Up-Down-Sideways?

• You Can Build the Financials from the
• Bottom-Up or the Top-Down
• Top-Down What To Do For Every New Idea.
• Capture 1 of the 500 Million Total Market
• Sales 5,000,000
• Sell 1,000 units per Year _at_ 5,000 each
• Sales 5,000,000
• Bottom-UP The Approach Preferred by
  Investors
  

• You Can Build the Financials from the
• Bottom-Up or the Top-Down
• Top-Down What To Do For Every New Idea.
• Capture 1 of the 500 Million Total Market
• Sales 5,000,000
• Sell 1,000 units per Year _at_ 5,000 each
• Sales 5,000,000

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Top-Down Example

• Calculate Sales Based on Market Share
• How Much of the Accessible Market Can You
  Capture?
  
• 1 Market Share of 500 Million 5 Million
• Use Industry Comparable Ratios
• Sales 100 5,000
• - Cost of Goods Sold 33 1,650
• Gross Margin 67 3,350
• - Selling Expenses 25 1,250
• - Advertising Marketing 15 750
• - Service Support 10 500
• - Research Development 15 750
• - General Administrative 8 400
• Profit Margin / (Loss) (6) (300)

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Bottom-Up Example

• Sales Volume Desired 5 Million
• Sales Quotas per Rep 1 Million
• Sales Productivity 20 / Qtr.
• Reps Reaching Quota 66
• Sales Reps Needed 8
• Commissions 5 250K
• Base Salary 8 _at_ 8K / Month
• Payroll Taxes 10 Salary Comm.
• Employee Benefits 350 / Month / Rep
• PC Requirements 8 _at_ 2K / Rep
• Travel Expenses 3K / Month / Rep

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Problem with Bottom-UP

• How to Predict Several Years Out for Specific
  Expenses?
  
• The Farther Out You Predict
• Less Accurate Your Projections!

Short Term
Long Term
Best You Can Do is Broad Stroke Guessing

Use BOTH Bottom-Up and Top-Down Techniques
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Developing a Financial Plan

• is NOT a Knee-Jerk Reaction.
• Warning Dont Try To Do This A Few Days
• Just Before a VC Presentation!
• DO NOT Short Cut The Financial Plan
• You May Under Value Your Company!

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Is This Your Business Model?
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Where to Start

• Unit Sales One or more per End-User?
• Channel Partners Discounts, Commissions, Co-Op
  Mkt.
  
• Distributors Stocking with Return Rights
• Accessories One Time Sale per Unit Sold
• Recurring Sales Disposables / Consumables
• Subscription Income Monthly or Annual
• Service Sales by Phone, Parts Only, Labor
  Parts
  
• Warranty Repaired, Replaced, Shipping
• Professional Services Hourly Billing / Project
  Billing
  
• License Royalty Fees Advances / Paid
  Quarterly

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Revenue Variables Bottom Up
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Sales Reps Bottom Up
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Personnel Bottom Up
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Expense Variables - Bottom Up
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Expense Variables Sideways
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Fixed Asset Variables Bottom Up
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Financial Results
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Key Performance Indicators
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Charts and Graphs Examples
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In Summary

• Building Your Financial Model
• 5 Years with Totals by Year, Quarter Month
• Use Bottom-UP Top-Down Projection Methods
• Make Sure Your Numbers Make Sense
• Revenue Buildup Seem Logical?
• Expenses Make Sense In Relation To Revenues?
• Ratios Compare to the Rest of the Industry?
• Are Your Projections Achievable?
• Numbers Realistic Feel Right?
• Are YOU Comfortable with the Numbers?

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Also Consider ...

• Developing Financials is NOT a One Time Effort?
• Plans are Not Static Change Based on Investor
  Feedback.
  
• Get it Right OR You Will Raise INSUFFIENT Funds!
• Causes Stock Dilution Raise More Money TOO
  SOON!
  
• Respond Instantly to Potential Investor
  Questions.
  
• If You Dont Answer Questions Fast Enough,
• You Can Lose Their Interest Investment.

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A True, but Sad Story

• Can you please HELP me? Below is an e-mail that I
  received from an investor.
  
• I need what he is asking in terms of a financial
  analysis.
  
• - - - - - - - - - - - - - - - - - - - - - - - - -
  - - - - - - - - - - - - - - - - - - - - - - - - -
  - - -
  
• Im not sure I understand what stage you are
  raising money for ... have you already completed
  Series A B? and if so how much have you raised?
  How much is left? what is your Current Monthly
  Burn? and Current Monthly Revenue? etc.
• Or if this a first round, still pre-revenue,
  pre-product, in which case, how do you see the
  first 10m being staged? Eg. 500k 1.5m 3m
  5m? or 500k 2.5m 7m? and what are the risk
  decreasing milestones achieved with each round
  which justify progressive valuation boosts?
• Please send me a current cap table which shows
  the financing history to date and proposed
  financing stages with their relative valuations
  (ie stage specific IRRs) and their dilutive
  effect on owners from each stage?
• This is a good exercise for you to do anyway, if
  you haven't done it yet, since it often reveals
  inconsistent IRR trends between consecutive
  rounds and highlights the importance of
  decreasing IRRs which each round as materially
  significant risk-reducing milestones are
  achieved...

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Be Prepared!

• Summary of the Investors Request
• Capitalization History
• Company Valuation for each round of funding
• Projected Internal Rate of Return for the
  Investor
  
• Risk Reducing Milestones Achieved by the Company
• Rounds and Amounts of Funding
• Cash Burn Rates
• Revenue Flow

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Pre Post Money Valuation

• Understanding Pre and Post Money Valuation
• Assume the investment is 1 Million for 20 of
  the stock
  
• Pre-Money 4 Million
• (Funds Invested / of Company Obtained) Funds
  Invested
  
• Then 1 Million / 20 5 Million
• Pre-Money Valuation 5 Million - 1 Million
  4 Million
  
• Post-Money 5 Million
• Post-Money Valuation Pre-Money Funds
  Invested
  
• Post-Money Valuation 4 Million 1 Million
  5 Milliohm

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Make Sure You ...

• Have Different Business Scenarios Ready
• Best Case, Worst Case Most Likely
• Try to Prepare for Every Financial Question.
• You Dont Need a Reason to Lower Your Company
  Valuation.
  
• Evaluate Alternative Business Strategies
• What If
• Terminations, Dropping a Project, Cutting
  Salary, Adding Sales Reps
  
• Dont Close a Major Deal, Impact of Changing
  Prices or Costs
  
• Timing of Funding, Impact on Company Valuation,
  etc.
  

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Hal Ettermans Top-10

• What NOT To Say When the VC Asks
• Why Do Your Financials Look So Bad?
• 1 Would You Like Me To Divide or Multiply by
  TWO?
  
• 2 It Takes Too Long to Redo - Can We Live
  With These Numbers?
  
• 3 The Balance Sheet Will Balance Once We Can
  Afford a CFO
  
• 4 I Thought Cut Paste Meant Using Scissors
  Glue
  
• 5 I Used the Quicken to Forecast
• 6 I Dont Have Excel I Used Word Instead
• 7 I Thought an Income Statement Was Enough?
• 8 It Was Tax Season When My CPA Helped Me
• 9 My Brother-in-law Did The Numbers for Me
• 10 My Kids Spilled Their Milk on It

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If you Need Assistance or Want . . .

• Information about our Software Application
• The Knight Plan
• to Create Financials, please contact me.

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Thank You and Best of Luck in your Venture!

• Hal Etterman
• Knight Financial Plans Service, LLC
• Danville, California
• Telephone [phone]
• Email hetterman_at_knightplan.com
• Website www.KnightPlan.com