what is financial analysis in business plan

How To Conduct Financial Analysis for Your Company

Updated: October 02, 2024

Published: May 23, 2023

If someone were to ask you about your company’s financial strengths and weaknesses, could you give them a detailed answer?

As a founder, you need to know this type of information about your business. Understanding your financial performance is key to making better decisions about growth and investment plans. 

The key to painting that picture lies in a process known as financial analysis.

What is financial analysis?

Financial analysis is the process of going over a company’s financial data to evaluate its performance in order to make informed business decisions. Founders and executives use financial analysis to assess performance and make strategic decisions, such as where to invest money to improve growth. 

Externally, investors use financial analysis to make decisions about which companies are good investments. Potential lenders, such as banks, may also use financial analysis when they review loan applicants to assess your ability to pay back the money they lend.

Financial analysis is typically done by an external finance professional who reviews documents like the income statement, cash flow statement, and balance sheet.

How to do a financial analysis

1. collect your company’s financial statements.

Financial analysis helps you identify trends in your business’s performance. To get the best insights, compare your business performance over time.

Gather your recent financial statements, including your balance sheets, income statements, and cash flow statements. Look at the last three to five years’ worth of data, which is enough to establish a trend while still focusing on your most recent (and relevant) performance.

Once you have all your documents, arrange them in chronological order.

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2. Analyze balance sheets

Your balance sheets give you a snapshot of your company’s finances at a given point in time, such as the end of a fiscal year. On this sheet, you’ll see the value of your short- and long-term assets, debts, and owner’s equity. 

Look at your balance sheets and consider the following questions: 

• How much debt do you have compared to equity?
• Has your debt been increasing or decreasing over time?
• How liquid is the business? (i.e., how much of the business’s assets are short term?)
• How has the liquidity of the business changed over time?

3. Analyze income statements

Also known as a profit and loss (P&L) statement , the income statement provides insight into your company’s revenue , expenses, and profits. 

Evaluate your income statements and look for trends in your:

• Gross revenue: Total amount of income generated by sales.
• Operating income: Revenue minus the cost of goods sold (COGS). This tells you how much of your revenue remains after you account for operating expenses.
• Net profit (or loss): Revenue minus all expenses. This tells you how much money your company earned (or lost) after paying interest and taxes.

Startups can often take two to three years to become profitable . That’s why it’s helpful to track several financial metrics. 

For example, you can have a net loss while still generating an operating profit. This means your core business is profitable, but you may still be paying off interest on the loans it took to get the business off the ground.

4. Analyze cash flow statements

Your cash flow statements give you insight into how money flows in and out of your business by looking at your expenses and which activities generate income.

Here are some steps to take in your cash flow analysis :

• Review cash flow for each activity (operating, investing, financing). Note whether cash flow is positive (the activity generates income) or negative (the activity loses money). 
• Compare cash flow from each activity to see which generates the most income for your business. 
• Review cash inflow and outflow over time to identify trends. Are they increasing or decreasing?
• Review total cash to see if it is increasing or decreasing over time.

5. Calculate relevant financial ratios

Calculate financial ratios to get a more detailed picture of your company’s profitability, liquidity, and overall operational efficiency. Here are some of the most common metrics to consider in a ratio analysis.

6. Summarize your findings

Put together all your findings. You can use the following prompts to help organize your analysis:

• What are my company’s financial strengths? 
• What are my company’s financial weaknesses?
• How well did the company perform compared to previous financial projections?
• What are the possible explanations for my company’s strengths and weaknesses?
• What financial improvements do I want to make?

After you conduct your analysis, you’ll know where your business stands in terms of its finances and be able to have educated discussions with stakeholders and potential investors.

Furthermore, you’ll be able to use this knowledge to make more informed decisions about your business’s strategy.

Gaurav Nagani, CEO of help desk software company Desku.io, recommends conducting an analysis “before investing, at regular intervals, before making strategic decisions, and during difficult times.” This way, when you have to make impactful decisions, you’re doing so with a full picture of your company’s financial health. 

Common types of financial analysis

There are several different types of financial analysis that you, or a financial professional, can use, depending on what you hope to glean. 

Horizontal analysis

Horizontal analysis looks at a company’s performance over time by comparing financial statements over different periods, such as months, quarters, or years. 

You can use it to identify growth trends and support financial forecasting , which is the process of using historical data to predict your company’s performance in the future.

Vertical analysis

Vertical analysis looks at a company’s financial performance relative to one metric, such as your total assets. In this case, all line items on the financial statements are expressed as a percentage of total assets. For example, you can use the debt-to-asset ratio, which looks at your total debt as a percentage of total assets.

Say your total debt is $4m and you have $10m in total assets. A vertical analysis would show your debts as 40% of total assets, which is what you get when you divide $4m by $10m.

Using vertical analysis makes it easy to see relationships between the metrics on different financial statements. It’s also helpful for comparing companies with one another for benchmarking.

Valuation is the process of using a company’s financial information to estimate the value of the business . 

Investors often compare a company’s estimated value to its stock price to see if they want to buy shares. For startups, valuations are a necessary step to take before starting a priced fundraising round.

Growth Rates

Growth rates represent the percent change in a given metric over time, such as the percent change in net sales over four quarters. Analyzing growth rates can help forecast future performance for specific metrics.

Profitability

Analysts may use profitability ratios , which provide insight into how efficiently your company turns revenue into profit. The higher your profitability ratios, the more resources you’ll have to reinvest into the company’s growth or distribute to your shareholders.

Jeff Schmidt, vice president of financial modeling at Corporate Finance Institute, reminds entrepreneurs, “The point of analysis is to not focus on one method or another but consider the analysis in total and make the proper investment decision.” 

Financial analysis example

One example of a financial analysis would be if a financial analyst calculated your company’s profitability ratios , which assess your company’s ability to make money, and leverage ratios , which measure your company’s ability to pay off its debts. Based on the results of the analysis, the analyst will decide if they want to recommend your company as a good investment. 

Knowing how to do a financial analysis is a key skill for entrepreneurs because it helps you understand your company’s performance. You can use the insights you gain from financial analysis to make more informed decisions about your overall strategy. 

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How to Write a Financial Plan for a Business Plan

Noah Parsons

4 min. read

Updated July 11, 2024

Creating a financial plan for a business plan is often the most intimidating part for small business owners.

It’s also one of the most vital. Businesses with well-structured and accurate financial statements are more prepared to pitch to investors, receive funding, and achieve long-term success.

Thankfully, you don’t need an accounting degree to successfully create your budget and forecasts.

Here is everything you need to include in your business plan’s financial plan, along with optional performance metrics, funding specifics, mistakes to avoid , and free templates.

• Key components of a financial plan in business plans

A sound financial plan for a business plan is made up of six key components that help you easily track and forecast your business financials. They include your:

Sales forecast

What do you expect to sell in a given period? Segment and organize your sales projections with a personalized sales forecast based on your business type.

Subscription sales forecast

While not too different from traditional sales forecasts—there are a few specific terms and calculations you’ll need to know when forecasting sales for a subscription-based business.

Expense budget

Create, review, and revise your expense budget to keep your business on track and more easily predict future expenses.

How to forecast personnel costs

How much do your current, and future, employees’ pay, taxes, and benefits cost your business? Find out by forecasting your personnel costs.

Profit and loss forecast

Track how you make money and how much you spend by listing all of your revenue streams and expenses in your profit and loss statement.

Cash flow forecast

Manage and create projections for the inflow and outflow of cash by building a cash flow statement and forecast.

Balance sheet

Need a snapshot of your business’s financial position? Keep an eye on your assets, liabilities, and equity within the balance sheet.

What to include if you plan to pursue funding

Do you plan to pursue any form of funding or financing? If the answer is yes, you’ll need to include a few additional pieces of information as part of your business plan’s financial plan example.

Highlight any risks and assumptions

Every entrepreneur takes risks with the biggest being assumptions and guesses about the future. Just be sure to track and address these unknowns in your plan early on.

Plan your exit strategy

Investors will want to know your long-term plans as a business owner. While you don’t need to have all the details, it’s worth taking the time to think through how you eventually plan to leave your business.

• Financial ratios and metrics

With your financial statements and forecasts in place, you have all the numbers needed to calculate insightful financial ratios.

While including these metrics in your financial plan for a business plan is entirely optional, having them easily accessible can be valuable for tracking your performance and overall financial situation.

Key financial terms you should know

It’s not hard. Anybody who can run a business can understand these key financial terms. And every business owner and entrepreneur should know them.

Common business ratios

Unsure of which business ratios you should be using? Check out this list of key financial ratios that bankers, financial analysts, and investors will want to see.

Break-even analysis

Do you want to know when you’ll become profitable? Find out how much you need to sell to offset your production costs by conducting a break-even analysis.

How to calculate ROI

How much could a business decision be worth? Evaluate the efficiency or profitability by calculating the potential return on investment (ROI).

• How to improve your financial plan

Your financial statements are the core part of your business plan’s financial plan that you’ll revisit most often. Instead of worrying about getting it perfect the first time, check out the following resources to learn how to improve your projections over time.

Common mistakes with business forecasts

I was glad to be asked about common mistakes with startup financial projections. I read about 100 business plans per year, and I have this list of mistakes.

How to improve your financial projections

Learn how to improve your business financial projections by following these five basic guidelines.

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Noah is the COO at Palo Alto Software, makers of the online business plan app LivePlan. He started his career at Yahoo! and then helped start the user review site Epinions.com. From there he started a software distribution business in the UK before coming to Palo Alto Software to run the marketing and product teams.

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How to Conduct a Strategic Financial Analysis for Your Business

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6 min. read

Updated October 10, 2024

How often do you review your business numbers? If you look at the financial performance of your business at least once a month or perhaps even more frequently , you’re in good shape—and better off than most businesses.

Unfortunately, too many businesses review their books only every few months, and frankly, that’s not a great strategy. It gives those businesses fewer opportunities to see if things are going well or not. The more frequently you review your business finances, the more chances you have to find opportunities for growth .

But how do you approach reviewing your financials? What documents should you analyze? What exactly should you be looking for? Let’s try to answer those questions by introducing you to a process known as a strategic financial analysis.

What is a strategic financial analysis?

A strategic financial analysis is a review framework where you analyze performance, assess your goals, and make adjustments to your forecasts and strategy based on actual results. In short, this is where you connect the dots between your numbers and the actions that you’re taking. The intention is to identify any potential problems or opportunities within your financials and turn them into strategic steps for growth.

In some cases, this analysis may also include a deeper look at your business model, comparisons against your competitors , and even different forecast scenarios. 

What financial statements should I review when conducting a strategic financial analysis?

When you’re reviewing your business financials, you’ll want to check these three key reports:

• • Profit and loss (also known as an income statement)
• • Cash flow
• • Balance sheet

Each report will tell you different things about your business. Put together, they’ll provide you with nearly everything you’ll want to know about your business performance. By the end, you should be able to bring your forecasts for these statements up to speed based on your actual results . 

How to conduct a strategic financial analysis

Here are the five steps you’ll want to take when conducting a strategic analysis of your financial statements.

1. Compare your forecast to your actuals monthly

So, if you’re reviewing your business financials regularly, you’re off to a good start.

But to get even more value out of that financial review, you need to start comparing your actuals —how your business performed—to your forecast.

Ideally, compare your plan to what actually happens in a monthly meeting with your key staff. You’ll want to have your forecast handy as well as reports from your accounting software so you can compare the two and see if you’re on track. 

If you’re using LivePlan, the software will do all of the number-crunching and comparison work for you—no spreadsheets required—and you’ll be able to compare everything in a simple business dashboard . 

2. Identify where you’re off track or exceeding projections

When you’re forecasting, you’re making educated guesses. This means that your actual financial performance in a given month will vary. 

You’ll typically either be off track and performing worse than expected. On track and sitting fairly close to expectations. Or, outperforming your forecasts and exceeding expectations. 

What does comparing my plan to my actual results do for me?

If you just review what happened in the past, you’ll get a good idea of what happened during the past month of your business. But, it’s difficult to know if your performance is good or bad if you’re not comparing your actual results against your plan. 

• • How do you know if you’re meeting your sales goals?
• • Can you tell that you’re keeping your spending within your budget?
• • Are you keeping as much cash in the bank as you need to?

Even more importantly, if you have plans to grow your business or make significant investments, you’ll want to know if it makes financial sense to spend the money. Should you invest now or should you wait for a better time? Should you open a second location or hold off?

By reviewing your plan and comparing it to your actual results, you’ll get a better sense of when you should look to expand, and when you should be reining things in. Make a mistake and invest in your business at the wrong time and you could create a cash flow crunch that could sink your business.

3. Review your Income statement (profit and loss or P&L)

Your income statement (also called profit and loss or P&L) documents your income and your expenses. When you compare this statement to your forecast, you’ll see if your sales are meeting your goals and if you’re keeping your expenses in line with your budget.

If you’re not sure what’s included in an income statement or what types of information you’ll find there, start with this guide to reading a profit and loss or income statement that will help orient you to each line item. 

You can also download an income statement example to help you better visualize the information. For a more dynamic solution that displays actual results for completed periods right into your forecasted Profit and Loss statement, check out LivePlan’s LiveForecast feature . No more hours spent inputting accounting information. Just you spending more time digging into what is and isn’t working for your business.

When you’re ready to dive deeper and start your income statement analysis, use this income statement analysis guide for your monthly financial review. It walks you through typical questions that might come up as you’re doing your review. That way, you can use your findings to make better strategic decisions for the health and growth of your business. 

4. Analyze your cash flow statement

Your cash flow statement will tell you exactly how cash moved into and out of your business. Comparing this statement to your cash flow forecast will tell you if you’re on track to grow your bank balance the way you had planned, and why you might be off track if things aren’t going the way you had hoped.

Check out this article on how to read a cash flow statement for a line-by-line explanation of how it works. And download our cash flow statement template if you’re looking for a sample to work from as you review your own.

When you’re ready to start comparing your actual cash flow to your forecast, this guide to cash flow analysis will help you get started. 

5. Review your balance sheet

Your balance sheet will give you a complete overview of your financial position. How much money are you owed and how much money do you owe? What assets does your business have? Your balance sheet analysis will help you understand if you’re collecting money from your customers at the right rate, and if you’re taking on more debt than planned. 

If you’re new to balance sheet review, this article offers more insight on how a balance sheet is set up , and what you need to know about each line. You can also download a balance sheet example to help you visualize it better. 

When you’re ready to do your monthly review, this balance sheet analysis guide will help you get started. 

Look beyond your financials for more insights

Doing a monthly financial statement analysis—comparing your actuals to your plan or forecast—helps you keep a finger on the pulse of your business finances. 

Additionally, it’s wise to look at industry benchmarks , financial shifts in your industry, and any other external factors that may be affecting your financial performance. Use your initial comparison to actual performance to jumpstart this market analysis and help you define the next steps. 

When you identify a gap or variance between what you forecast and what actually happened, use that information to help you make strategic shifts in your business so you can quickly address challenges and take advantage of opportunities.

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Noah Parsons

Before joining Palo Alto Software , Noah Parsons was an early Internet marketing and product expert in the Silicon Valley. He joined Yahoo! in 1996 as one of its first 101 employees and become Producer of the Yahoo! Employment property as part of the Yahoo! Classifieds team before leaving to serve as Director of Production at Epinions.com. He is a graduate of Princeton University. Noah devotes most of his free time to his three young sons. In the winter you'll find him giving them lessons on the ski slopes, and in summer they're usually involved in a variety of outdoor pursuits. Noah is currently the COO at Palo Alto Software, makers of the online business plan app LivePlan.

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Financial Analysis: What is it, Types, Objectives, Limitations & Tools

Table of Contents

Introduction to financial analysis

Whether individuals, small businesses, or large corporations, financial analysis is critical to understanding and evaluating financial health. Analyzing relevant financial data makes decisions that help assess performance and identify trends far easier.

Through this article, we provide a concise introduction to how a financial analyst explores the significance and applications of such analysis. From interpreting financial statements to assessing investment opportunities, we will navigate the fundamental principles and methodologies that underpin this discipline.

What is financial analysis?

Financial analysis examines and interprets financial information to assess the performance, stability, and prospects of an individual, organization, or investment. It involves evaluating financial statements, ratios, and other relevant data to gain insights into an organization’s financial health, profitability, liquidity, and solvency.

By scrutinizing these indicators, the analysis facilitates informed decision-making, risk assessment, and strategic planning. It provides a comprehensive understanding of an entity’s financial position and assists in identifying trends, potential risks, and growth opportunities. Financial analysis is a vital tool for stakeholders to make sound financial decisions based on objective evaluations.

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Importance of financial analysis

Here are key reasons why financial analysis is essential for your enterprise.

• Financial performance assessment: Evaluate profitability, liquidity, and solvency to understand your enterprise’s financial health.
• More informed decisions: Analyze financial data and industry trends to make sound choices regarding investments, expansions, and strategic initiatives.
• Managing risks better: Identify potential risks, vulnerabilities, and implement measures to mitigate them effectively.
• Optimal use of resources: Optimize resource allocation, improve cost management, and enhance overall profitability.
• Tracking progress: Monitor financial indicators over time to track performance, identify trends, and take corrective actions if necessary.
• Better communication with stakeholders: Present financial reports and analyses to stakeholders, demonstrating transparency and building trust.
• Compliance and regulations: Ensure compliance with financial regulations, accounting standards, and reporting requirements.

By leveraging financial analysis, your enterprise can gain a comprehensive understanding of its financial standing, make informed decisions, mitigate risks, optimize resources, and achieve sustainable growth.

Objectives of financial analysis

Financial analysis helps to assess your enterprise’s financial performance, make informed decisions, identify strengths and weaknesses, plan for the future, communicate effectively with stakeholders, and ensure compliance with regulations.

By analyzing financial data consistently, you gain insights into profitability, liquidity, solvency, and efficiency. It enables you to evaluate investment opportunities, manage risks, and optimize resources.

Such an analysis also aids in setting realistic goals, developing strategies, and maintaining transparency with stakeholders. Furthermore, it ensures adherence to accounting standards, regulations, and reporting requirements, promoting ethical financial practices.

Quick read: Financial Accounting: Definition, Types, Functions & Examples

Key Components of Financial Analysis

The key components include examining financial statements, assessing financial ratios , analyzing cash flow, and evaluating key performance indicators (KPIs).

You can understand your enterprise’s financial position and performance by reviewing financial statements such as the income statement , balance sheet , and cash flow statement . Financial ratios, such as profitability ratios, liquidity ratios , and solvency ratios, provide insights into various aspects of your financial health.

Analyzing cash flow helps track the movement of funds and assesses your enterprise’s ability to meet financial obligations. Lastly, evaluating KPIs specific to your industry or business activities enables you to measure performance against set benchmarks.

Read About: 6 Best Cash Flow Management Software in 2023

1. Financial statements

Financial statements provide a snapshot of your enterprise’s financial performance and position. These statements include the income statement, balance sheet, and cash flow statement. They offer valuable insights into revenue, expenses, assets, liabilities, and cash flows. By reviewing and analyzing these statements, you can assess profitability, solvency, and liquidity and make informed decisions regarding investments, financial planning, and resource allocation.

Here’s a quick look at what each of these offer.

• Income Statement: The income statement summarizes your enterprise’s revenues, expenses, and net income or loss over a specific period, providing insights into profitability and operational performance.
• Balance Sheet: The balance sheet presents your enterprise’s assets, liabilities, and shareholder’s equity at a given time, offering a snapshot of its financial position.
• Cash Flow Statement: A cash flow statement monitors the inflows and outflows of cash, allowing you to identify and monitor the sources and uses of cash within your enterprise.
• Statement of Shareholders’ Equity: The shareholders’ equity statement outlines the shareholders’ equity changes over a period. It includes net income, dividends, and equity transactions, providing insights into the ownership structure and retained earnings.

2. Financial ratio analysis

This analysis is a powerful tool as it helps evaluate your enterprise’s financial health. By comparing key financial ratios, such as profitability, liquidity, and solvency ratios, you can gain valuable insights into performance and make informed decisions.

The above ratios assess profitability, measure liquidity and ability to meet short-term obligations, evaluate long-term solvency, and analyze efficiency and productivity.

They provide a clear picture of your enterprise’s financial position and assist in identifying areas for improvement, optimizing resources, and mitigating risks. Let’s take a quick look at the ratios.

• Liquidity Ratios:  Liquidity ratios, such as the current and quick ratios, assess your enterprise’s ability to meet short-term obligations and provide insights into its liquidity and cash flow position.
• Solvency Ratios:  Solvency ratios, including the debt-to-equity ratio and interest coverage ratio, evaluate your enterprise’s long-term financial viability and ability to meet long-term obligations and interest payments.
• Profitability Ratios: Profitability ratios, such as gross profit margin and return on investment (ROI or rate of return), measure your enterprise’s profitability and effectiveness in generating profits from its operations.
• Efficiency Ratios: Efficiency ratios, like inventory and accounts receivable turnover, evaluate how efficiently your enterprise utilizes its assets and manages its resources to generate sales and collect payments.

3. Trend analysis

Trend analysis involves examining past data to identify patterns and trends in your enterprise’s financial performance. Comparing and analyzing data from multiple periods allows you to look at changes, growth rates, and shifts in key financial metrics.

Such an analysis also helps you understand the direction and magnitude of changes in areas such as revenue, expenses, profitability, and liquidity. Trend analysis enables you to identify emerging opportunities, detect potential risks, and make informed decisions based on historical patterns and future projections.

It provides valuable insights into your enterprise’s performance trajectory and helps guide strategic planning and resource allocation.

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4. Comparative analysis

A comparative analysis involves comparing your enterprise’s financial data with that of similar companies or industry benchmarks. The reasons could be to gain insights into performance, identify areas of strength or weakness, or other specific purposes.

By analyzing financial ratios, key performance indicators, and other relevant metrics, you can assess how your enterprise fares against competitors or industry standards. Any comparative analysis helps you benchmark performance, identify best practices, and make informed decisions for improvement.

It provides a context to evaluate your enterprise’s relative position, competitive advantage, and areas for potential growth or optimization.

5. Risk analysis

When you assess and evaluate potential risks that may impact your enterprise’s financial stability, operations, or strategic objectives, it is called a risk analysis. It entails identifying and analyzing various risk factors, such as market volatility, economic conditions, regulatory changes, and internal vulnerabilities.

A comprehensive risk analysis will tell you about the likelihood and potential impact of these risks. You can then prioritize them based on their significance and develop effective risk management strategies.

This analysis helps you proactively mitigate risks, make informed decisions, and safeguard your enterprise’s financial well-being. It enables you to navigate uncertainties, protect assets, and ensure resilience in an ever-changing business landscape.

6. Qualitative factors

Non-financial considerations that impact your enterprise’s performance and decision-making processes are considered qualitative factors. They include aspects such as brand reputation, customer satisfaction, employee morale, market trends, and regulatory environment.

These factors are subjective and not easily quantifiable. However, they are critical in shaping your enterprise’s success. Qualitative factors provide insights into the overall health and perception of your business, influence customer loyalty, affect employee productivity, and can impact long-term sustainability.

Considering qualitative factors alongside quantitative data allows for a more holistic assessment and aids in making well-rounded and informed business decisions.

7. External factors

External factors exist outside your enterprise’s control but directly or indirectly impact its operations, performance, and decision-making processes. These factors include market conditions, economic trends, technological advancements, regulatory changes, competition, and socio-political factors.

External factors often shape the business environment in which your enterprise operates and influence its opportunities, risks, and overall success.

Understanding and monitoring external factors is crucial to adapt to changing circumstances, identifying emerging trends, and making strategic decisions that align with the external landscape to ensure sustainable growth and competitiveness.

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Types of Financial Analysis

Enterprises utilize several types of financial analysis to gain insights into their financial performance, make informed decisions, and assess future prospects.

• Vertical Analysis
• Horizontal Analysis
• Ratio Analysis
• Financial Statement Analysis
• Comparative Analysis
• Forecasting and Projections
• Qualitative Financial Analysis
• Cash Flow Analysis
• Break-Even Analysis
• Sensitivity Analysis
• Scenario Analysis
• Valuation Analysis
• Discounted cash flow (DCF) analysis
• Price-to-earnings (P/E) ratio or comparable company analysis

Let’s look at each of these in detail to understand them better.

1. Vertical Analysis

It is also known as common-size analysis, and it is a financial analysis technique that evaluates the relative proportion of each financial statement item to a base value. The figure is typically expressed as a percentage. It allows organizations to assess the composition and significance of various line items within financial statements.

Benefits: The analysis enables organizations to identify trends, patterns, and anomalies in financial data, helping them understand the relative importance of different components. It aids in comparing a company’s financial statements of different periods, benchmarking against industry standards, and highlighting areas that require attention.

Limitations: Vertical analysis does not consider changes in the base value, making it difficult to assess absolute changes in line items. Additionally, it does not provide insights into the relationship between different financial statement items or the impact of external factors.

Example: In a vertical analysis of an income statement, revenue may be set as the base value, and each expense item would be expressed as a percentage of revenue. This allows for a clear understanding of the cost structure and the relative impact of each expense category on overall profitability. For instance, if the cost of goods sold (COGS) represents 40% of revenue while operating expenses account for 30%, it indicates that COGS has a higher proportionate impact on the organization’s profitability than operating expenses.

2. Horizontal Analysis

The analysis, also known as trend analysis, is a technique that compares financial data over several periods to identify patterns, changes, and growth rates. It allows organizations to assess the direction and magnitude of changes in key financial metrics.

Benefits:  Horizontal analysis helps organizations identify trends and evaluate the consistency of financial performance over a period of time. It provides insights into growth patterns and highlights areas of improvement or concern. It also aids in forecasting future financial outcomes. Finally, it enables benchmarking against industry peers and facilitates decision-making based on historical trends.

Limitations:  The analysis relies heavily on historical data and assumes that past trends will continue in the future. It does not account for external factors that can significantly impact financial performance. Additionally, it may not uncover underlying reasons for changes in financial data. This may require further analysis for a comprehensive understanding.

Example: In an income statement, the revenue and expense items for each period are compared to assess their growth rates. For instance, if revenue increased by 10% in the current year compared to the previous year, while expenses increased by 15%, it indicates that expenses are growing faster than revenue, potentially impacting profitability. Such an analysis helps organizations understand the trend in revenue and expenses, enabling them to take corrective actions or capitalize on growth opportunities.

3. Ratio Analysis

This analysis is a technique that evaluates the relationships between different financial ratios to gain insights into an organization’s performance, financial health, and efficiency.

Benefits: Ratio analysis helps organizations assess profitability, liquidity, solvency, and operational efficiency. It provides a comprehensive view of the organization’s financial position. It aids in identifying strengths and weaknesses and facilitates benchmarking against industry peers.

Limitations:  This kind of analysis relies heavily on past financial data and may not capture qualitative aspects or external factors. This process requires careful interpretation of industry-specific benchmarks. Another factor is that accounting policies can influence ratios. It makes cross-company comparisons challenging. Additionally, ratio analysis provides a snapshot and may not reflect long-term trends or future changes accurately.

Example: Consider the debt-to-equity ratio, a commonly used ratio in such analysis. It compares a company’s total debt to its shareholder’s equity. A higher debt-to-equity ratio indicates a higher level of financial leverage, potentially increasing risk. For example, if a company has $1 million in debt and $2 million in equity, the debt-to-equity ratio would be 0.5. This ratio provides insights into the company’s capital structure and ability to meet its long-term financial obligations.

4. Financial Statement Analysis

Financial statement analysis involves examining an organization’s financial statements to assess its financial performance, position, and cash flows. It provides insights into profitability, liquidity, solvency, and operational efficiency.

However, limitations of financial statement analysis include the reliance on historical data, the possibility of distorted information due to accounting policies, and the lack of consideration for qualitative factors and external influences.

Additionally, financial statements may not capture future trends or address non-financial aspects crucial to comprehensively evaluating an organization’s overall performance.

5. Comparative Analysis

Comparative analysis is a technique that involves comparing an organization’s financial data with peers in the industry or standard benchmarks. The process helps evaluate performance, identify strengths and weaknesses, and make informed decisions.

Benefits: Comparative analysis allows organizations to assess their financial position relative to peers, gain insights into industry trends and best practices, benchmark performance, and identify areas for improvement. It provides a broader perspective on financial performance, aids in setting realistic goals, and facilitates strategic decision-making.

Limitations:  Such analysis may be limited by differences in accounting practices, company size, and industry dynamics. Therefore, comparing such numbers becomes less straightforward.

Also, it does not capture the nuances of each organization’s unique circumstances, such as market positioning or competitive advantages. Additionally, benchmarks may not always reflect the most relevant or up-to-date data for accurate comparisons.

Example: When you compare a higher company’s profitability ratio, such as return on investment (ROI), with industry averages, it suggests a stronger performance. Conversely, if the ROI is lower, it may indicate areas that require improvement.

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6. Forecasting and Projections

This involves predicting future financial outcomes based on historical data, financial market trends, and various forecasting techniques. By forecasting and using projection models, organizations can plan and anticipate future performance, make informed strategic decisions, and indulge in risk mitigation.

Benefits: Organizations get access to insights into potential future outcomes, enabling them to identify growth opportunities. You can allocate resources effectively and evaluate the feasibility of new initiatives. Also, it facilitates financial planning, budgeting, and goal setting, helping organizations align their strategies with expected future conditions.

Limitations:  Generally, projecting numbers or forecasting involves uncertainty and is subject to external factors beyond an organization’s control. They rely on historical data, assumptions, and models, which may not capture unexpected events or market disruptions.

Another limitation is errors that can occur in forecasting. It may be due to inaccurate data, flawed assumptions, or limitations of forecasting techniques. Organizations must recognize that projections are estimates. They should be regularly updated and adjusted as new information becomes available.

Example:  A company estimates its sales revenue for the upcoming year based on historical sales data, market trends, and industry growth rates. The company can project future sales figures by analyzing past performance, market conditions, and other relevant factors. This leads to better information for budgeting, resource allocation, and decision-making processes. It allows the organization to anticipate revenue streams, plans production levels, and assess the potential financial impact of various scenarios.

7. Qualitative Financial Analysis

This analysis involves considering non-financial factors that can impact an organization’s financial performance and decision-making processes. It includes brand reputation, customer satisfaction, industry trends, regulatory environment, and management effectiveness.

Benefits: A qualitative financial analysis provides a bird’s eye view of your organization’s financial health by considering non-financial indicators. It helps organizations understand market perception, identify competitive advantages, and evaluate risks and opportunities that may not be captured by quantitative analysis alone. It assists in strategic decision-making, risk management, and building long-term sustainability.

Limitations: This kind of analysis is subjective and relies on judgment rather than quantifiable data. It can be challenging to measure and compare qualitative factors across organizations or industries.

Interpretation may vary, making it difficult to establish consistent benchmarks or standards. Additionally, a qualitative analysis may not provide precise or definitive outcomes. Therefore, it should be used in conjunction with quantitative analysis for a comprehensive assessment.

Example: In a qualitative financial analysis, you will evaluate customer feedback and market surveys to gauge customer satisfaction and brand perception. A positive brand reputation and high customer satisfaction can contribute to customer loyalty, repeat business, and long-term financial success. Also, this analysis helps organizations understand intangible factors that impact financial performance, make strategic decisions to enhance customer experiences and differentiate themselves in the market.

8. Cash Flow Analysis

Such analysis involves examining an organization’s cash inflows and outflows over a specific period. It provides insights into an organization’s liquidity, operating, investing, and financing activities.

Benefits: Cash flow analysis helps organizations assess their ability to meet short-term obligations, manage cash flow effectively, and plan for future financial needs. It highlights cash flow patterns, identifies potential cash shortages or surpluses, and guides decision-making related to budgeting, financing, and investment strategies. It also assists in evaluating the sustainability and financial health of an organization.

Limitations: Cash flow analysis focuses solely on cash movements and may not fully capture an organization’s financial performance. It does not provide insights into non-cash items, such as depreciation or changes in working capital . Cash flow projections are also subject to uncertainties and rely on accurate and reliable data.

Example: An example of cash flow analysis is evaluating the operating cash flow of a company. By comparing the cash generated from core business operations to its expenses, the analysis reveals whether the company is generating sufficient cash to cover its operating costs. This analysis helps organizations understand their cash flow position, manage working capital effectively, and make informed decisions regarding investments, debt repayment, or expansion plans.

Quick read: Cash Flow Forecasting: What is it, Components, Methods, Process & Formats

9. Break-Even Analysis

This analysis is a financial analysis technique generally used to determine the point at which an organization’s total revenue equals its total costs. This is a no-profit/loss point. Such an analysis helps organizations assess the level of sales or production needed to cover all costs and achieve the break-even point.

Benefits:  Break-even analysis enables organizations to

• Understand their cost structure
• Evaluate pricing strategies, and
• Assess the feasibility of new products or services.

It allows you to understand the impact of changes in costs or pricing. Further, financial planning , budgeting, and decision-making are more effective as you have access to insights into profitability and risk assessment.

Limitations: The analysis assumes that costs and revenue relationships remain constant. The limitation is that this may not always hold true in dynamic business environments. Also, it does not account for variations in sales mix, discounts, or changes in fixed or variable costs. Additionally, a break-even analysis provides a static view and does not consider factors such as market demand, competition, or market saturation.

Example:  An organization can use break-even analysis to determine the number of units it needs to sell to cover all costs and reach the break-even point. By analyzing the fixed costs, variable costs per unit, and the selling price, the company can calculate the break-even quantity. This analysis helps organizations make informed decisions on pricing, cost control measures, and sales targets to ensure profitability and sustainability.

10. Sensitivity Analysis

Sensitivity analysis examines how changes in key variables impact an organization’s financial outcomes. Organizations can use different scenarios and assumptions to assess the sensitivity of their financial models or projections.

Benefits: This technical analysis allows organizations to understand the potential impact of changes in variables such as sales volumes, costs, interest rates, or exchange rates. It also helps identify the most critical factors affecting financial results. Insights into potential outcomes under different conditions lead to better decision-making and risk management.  

Limitations: This analysis assumes that changes in variables are independent and linear. Therefore, it may not accurately reflect real-world complexities. Since the accuracy of results depends on the quality of inputs, relying on assumptions or estimates may affect the results. The analysis does not provide a definitive forecast. Therefore, it should be used as a tool for scenario exploration rather than precise predictions.

Example:  Assessing the impact of fluctuating raw material costs on an organization’s profitability is a great example of such an analysis. For example, by varying the cost of raw materials in financial models , organizations can observe the sensitivity of profit margins to changes in input prices. It helps organizations anticipate and prepare for potential cost fluctuations or consider alternative sourcing strategies.

11. Scenario Analysis

Scenario analysis involves examining multiple plausible scenarios to understand how different events or conditions could impact an organization’s financial performance and outcomes. You can evaluate a range of potential future outcomes and make informed decisions based on such analysis.

Benefits: Scenario analysis allows organizations to assess the potential risks and opportunities associated with different scenarios. It helps to plan, strategize, manage risk, and better decision-making. Understanding the potential financial impact of different events or conditions enables organizations to be proactive, identify early warning signs, and develop contingency plans.

Limitations:  This analysis relies on assumptions and estimates, which may not accurately predict future events or conditions. Since it is limited by the imagination and knowledge of the analysts, it all comes down to subjective judgment. Also, this analysis does not provide a definitive forecast but just possible outcomes. Plus, it cannot account for all possible scenarios(black swan events or highly unpredictable situations).

Example: You can evaluate the potential financial impact of different economic scenarios, such as a recession, inflation, or market disruptions. By analyzing the potential effects of each scenario on revenue, costs, and profitability, organizations can make contingency plans, adjust pricing strategies, and allocate resources accordingly.

12. Valuation Analysis

Valuation analysis determines an organization’s or its assets’ intrinsic value. It involves assessing various factors such as cash flows, growth prospects, market conditions, and comparable transactions to estimate an organization’s or an investment’s worth.

Benefits: With a valuation analysis, you can make informed decisions regarding acquisitions, mergers, divestitures, or investment opportunities. It provides insights into the fair value of assets, assists in negotiating deals, and guides strategic planning. Further, you can advise your organization on potential returns and risks associated with an investment. It also helps in a better understanding of capital allocation and maximizing shareholder value.

Limitations: The biggest limitation is that it relies on assumptions, forecasts, and market conditions that may change over time. It is subject to uncertainties and subjective judgments, leading to different valuation outcomes. Valuation analysis is influenced by the availability and accuracy of data, as well as the quality of the underlying assumptions. It does not guarantee future performance or market behavior.

Example: Discounted cash flow (DCF) analysis is a great example of valuation analysis. It estimates the present value of future cash flows by discounting them back to the present using a suitable discount rate. This analysis helps organizations determine the value of an investment or project by considering the time value of money.

13. Discounted cash flow (DCF) analysis

Discounted cash flow (DCF) analysis estimates the present value of future cash flows from an investment or a project. Using your organization’s cost of capital (generally) as a discount rate, you can discount projected cash flows back to the present.

Benefits: Using the DCF analysis, you can make informed investment decisions after assessing the profitability and value of a project or investment over its lifespan. It considers the time value of money, allowing for a more accurate evaluation of potential returns. DCF analysis aids in capital budgeting , strategic planning, and assessing the feasibility of investment opportunities.

Limitations:  DCF analysis relies heavily on assumptions and forecasts, possibly introducing uncertainties and inaccuracies. It is sensitive to changes in discount rates, cash flow projections, and other key variables. DCF analysis assumes that cash flows can be predicted precisely, which is far from reality. It also does not consider non-financial and qualitative aspects that may impact investment decisions.

Example:  For example, in DCF analysis, projected future cash flows from an investment are estimated, and these cash flows are then discounted back to the present using an appropriate discount rate. If the net present value (NPV) of the cash flows is positive, the investment is potentially worthwhile. This analysis helps organizations assess the value of long-term investments, compare different projects, and determine whether the potential returns justify the initial investment.

14. Price-to-earnings (P/E) ratio or comparable company analysis

The Price-to-Earnings (P/E) ratio, or comparable company analysis, assesses the relative value of a company’s stock by comparing its market price per share to its earnings per share (EPS). It evaluates the P/E ratio of a company against the P/E ratios of similar companies within the same industry or market.

Benefits: P/E ratio analysis gives organizations a better picture of the market perception of their stock. It also helps to identify potential overvalued or undervalued situations. Another plus is that by assessing the attractiveness of a company’s stock and understanding market trends, it assists in making investment decisions. Further, comparable company analysis allows organizations to benchmark their valuation metrics against industry peers, aiding in strategic planning and capital allocation.

Limitations:  Here, too, just like several other analyses, it assumes that the market accurately reflects a company’s value. A key question to ask would be if the companies are truly comparable. It may not consider unique factors or specific characteristics that differentiate a company from its peers. These ratios can be influenced by temporary market conditions, investor sentiment, or accounting practices, making direct comparisons challenging. Additionally, P/E ratio analysis does not capture non-earnings factors, such as growth prospects or potential risks.

Example: If a company has a P/E ratio of 20 and similar companies in the industry have an average P/E ratio of 15, it suggests that the company’s stock may be relatively more expensive. Conversely, if the company’s P/E ratio is lower than the industry average, it may indicate an undervalued stock.

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Financial Analysis in Different Contexts

Financial analysis is a versatile tool that finds applications in numerous contexts. In investment analysis, it helps investors evaluate potential investments, assess risks, and estimate returns. Valuing companies, assessing synergies, and determining the financial feasibility of deals allows mergers and acquisitions to be smoother and more effective. In credit analysis, you can evaluate the creditworthiness of borrowers and determine appropriate loan terms.

1. Corporate Financial Analysis

In a corporate setting, such an analysis assesses the financial health and performance of companies.

It involves

• analyzing financial statements
• evaluating key financial ratios
• assessing profitability, liquidity, solvency, and efficiency.

This analysis aids in financial planning, budgeting, performance evaluation, and strategic decision-making for organizations.

2. Investment Analysis

Investment analysis cannot be complete without analyzing the financials. It helps investors evaluate potential investment opportunities. It also involves assessing the financial viability of investments, estimating risks, and projecting returns. By analyzing financial data, market trends, and industry factors, investors can make informed decisions on asset allocation, portfolio diversification, and investment strategies.

3. Credit Analysis

A crucial factor in credit analysis is enabling lenders to assess the creditworthiness of borrowers. It involves evaluating financial statements, assessing the ability to repay debt, and determining appropriate loan terms. A detailed credit analysis helps lenders manage risks, make informed lending decisions, and establish credit limits based on the borrower’s financial condition.

4. Mergers and Acquisitions (M&A) Analysis

Financial analysis involves evaluating the financial position and performance of target companies, assessing synergies, and determining the financial feasibility of proposed deals. M&A analysis helps identify potential value creation opportunities, estimate the fair value of assets, and evaluate the financial impact of consolidation.

5. Project Financial Analysis

Financial analysis is essential in project evaluation and decision-making. It involves

• Assessing the financial viability of projects
• Estimating cash flows
• Analyzing investment returns
• Evaluating risks.

Project financial analysis helps organizations make informed decisions on resource allocation, project selection, and capital budgeting to ensure the successful implementation of projects.

Best Practices for Effective Financial Analysis

• Gathering and Organizing Financial Data : Ensure your sources are reliable as you collect comprehensive and accurate financial data. Use financial statements, transaction records, and relevant supporting documents. Organize the data in a structured manner, and categorize it by accounts and periods to facilitate efficient analysis and comparison.
• Ensuring Data Accuracy and Quality : You must exercise diligence in verifying the accuracy and completeness of financial data. You must scrutinize calculations, reconcile discrepancies, and address any data anomalies. Maintain data integrity by implementing strong internal controls, conducting regular audits, and using reliable accounting software .
• Using Multiple Analysis Methods for Validation : Several financial analysis methods may be used to cross-validate results and enhance reliability. Use techniques like ratio analysis, trend analysis, and comparative analysis. By employing multiple methods, you can identify patterns, trends, and inconsistencies, ensuring more robust and dependable conclusions.
• Considering Industry and Economic Factors : The influence of industry dynamics and macroeconomic conditions on financial analysis should not be underestimated. Consider factors such as market trends, competition, regulatory changes, and economic indicators. Industry benchmarks and peer comparisons provide valuable context for evaluating financial performance.
• Keeping Up with Regulatory Changes : Stay abreast of relevant regulatory frameworks, accounting standards, and reporting requirements. Regularly update your knowledge to ensure compliance and accurate interpretation of financial data. Adhere to relevant laws and regulations to maintain the integrity and transparency of financial reporting .

By implementing these best practices, you can enhance the effectiveness and reliability of your financial analysis.

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Limitations and Challenges in Financial Analysis

• Assumptions and Estimates : One of the most significant challenges is that financial analysis relies on assumptions and estimates. Factors such as future market conditions, discount rates, and revenue projections involve inherent uncertainties, affecting the accuracy of analysis outcomes.
• Data Accuracy and Reliability : It is a fact that financial analysis is only as good as the data it is based on. Ensure financial data is accurate and reliable by implementing robust data collection processes. Check the verifying sources, and conduct regular audits. Address data inconsistencies and errors promptly to avoid misleading results.
• Industry-specific Challenges : Financial analysis can be different based on the industry you belong to. Each industry has its dynamics, accounting practices, and key performance indicators. Be mindful of industry-specific factors when conducting analysis, such as seasonality, regulatory requirements, or specific revenue recognition methods.
• Regulatory and Accounting Changes : Recognize that regulatory and accounting standards can change, impacting financial analysis. Stay updated with changes in regulations, accounting principles, and reporting requirements.

Tools and Software for Financial Analysis

• Financial Analysis Software (e.g., Bloomberg, FactSet): Explore specialized financial analysis software that provides comprehensive data, analytics, and visualization tools. These tools offer advanced features for portfolio analysis, risk assessment, and industry benchmarking.
• Accounting Software (e.g., QuickBooks, Xero): Implement accounting software to streamline financial data recording, reconciliation, and reporting. These tools automate processes, enhance accuracy, and provide real-time insights into financial transactions and statements.
• Data Visualization Tools (e.g., Tableau, Power BI): Employ data visualization tools to create interactive charts, graphs, and dashboards. These tools improve user experience with visual representation of financial data while aiding in better comprehension and decision-making.
• Financial Ratios and Analysis Templates: Utilize pre-designed templates and calculators specifically tailored for financial analysis. These resources can help standardize calculations and provide guidance for various financial ratios and metrics.
• Online Financial Databases and Research Platforms: Access online financial databases and research platforms like Reuters, Yahoo Finance, or Morningstar for up-to-date financial data, news, and industry analysis. These platforms offer comprehensive information for company research and financial analysis. When selecting tools and software for financial analysis, consider your specific needs, budget, and the complexity of the analysis required. Invest time in understanding the features, functionalities, and user-friendliness of the tools to ensure they align with your analysis requirements. Additionally, stay updated with new tools and technological advancements that may enhance your financial analysis capabilities.

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Financial Analysis Software

Financial management software is a powerful tool that helps you streamline and automate several mundane financial processes within your organization. Offering a range of features and functionalities, the software can assist in tasks such as budgeting, accounting, financial reporting, expense management , and cash flow tracking.

Benefits of financial management software include improved accuracy and efficiency in financial operations, enhanced financial visibility, and better decision-making based on real-time data. You can automate repetitive tasks, reduce manual errors, and gain valuable insights through customizable reports and dashboards.

Financial management software can contribute immensely to compliance too. It can ensure adherence to accounting standards and regulatory requirements. It facilitates collaboration among corporate finance teams, simplifies financial planning, and enables efficient financial analysis.

When selecting financial management software, consider factors such as scalability, integration capabilities with existing systems, user-friendliness, and vendor support. Evaluate your needs and budget to choose a software solution that works for your long-term growth and one that aligns with your organization’s financial management goals.

Financial analysis plays a crucial role in corporate decision-making and performance evaluation. By examining financial statements, assessing ratios, and analyzing trends, organizations gain valuable insights into their financial health, profitability, and efficiency.

Financial analysis aids in identifying strengths, weaknesses, and areas for improvement, enabling informed strategic decisions. It helps organizations evaluate investment opportunities, manage risks, and enhance financial planning and budgeting processes.

The objectives of financial statement analysis are to assess financial performance, evaluate the financial position, identify trends and patterns, measure liquidity and solvency, and make informed decisions based on the analysis of financial statements.

Financial analysis methods include ratio analysis, trend analysis, comparative analysis, cash flow analysis, break-even analysis, sensitivity analysis, scenario analysis, valuation analysis, and discounted cash flow (DCF) analysis. These methods help evaluate financial performance, assess risks, make investment decisions, and provide insights into an organization’s financial health.

An example of a financial analysis is the evaluation of a company’s profitability through ratio analysis, such as analyzing its gross, net, and operating profit margins. This analysis helps assess the company’s ability to generate profits from its operations and provides insights into its financial performance and efficiency.

The five components of financial analysis are liquidity analysis, solvency analysis, profitability analysis, efficiency analysis, and market analysis. These components help assess an organization’s financial health, performance, and viability from different perspectives.

Gather and analyze your financial statements. This should include the income statement, balance sheet, and cash flow statement. Calculate key financial ratios, such as profitability, liquidity, and solvency ratios. Analyze trends, compare with industry benchmarks, and consider qualitative factors. Interpret the findings to assess the company’s financial performance, identify strengths and weaknesses, and make informed decisions.

Financial ratios are quantitative metrics that assess a company’s financial performance and condition. They compare different financial elements, such as profitability, liquidity, solvency, and efficiency, by relating them to one another. Financial ratios provide insights into the company’s financial health, help identify strengths and weaknesses, and enable comparisons with industry benchmarks or historical performance. Investors, lenders, and analysts can make informed decisions about the company’s financial prospects and risks by analyzing these ratios.

Financial analysis can help evaluate a company’s profitability by assessing key metrics such as gross profit margin, operating profit margin, and net profit margin. It analyzes revenue, expenses, and profitability ratios to understand the company’s ability to generate profits from its operations. An evaluation provides insights into the company’s efficiency, pricing strategies, cost management, and overall financial performance.

The key metrics used to assess a company’s liquidity include the current, quick, and cash ratios. These metrics evaluate the company’s ability to meet short-term obligations and measure the availability of liquid assets to cover current liabilities.

Financial analysis assesses a company’s solvency and financial stability by analyzing metrics such as debt-to-equity ratio, interest coverage ratio, and debt ratio. These ratios evaluate the company’s ability to meet long-term obligations and indicate its overall financial health and capacity to manage debt effectively.

Horizontal analysis compares financial data over multiple periods to identify trends and changes, focusing on the change in values over time. Vertical analysis, on the other hand, examines the proportions and relationships within financial statements, expressing line items as percentages of a base figure. Horizontal analysis helps assess performance over time, while vertical analysis highlights the composition and relative significance of different components within financial statements.

Financial analysis involves evaluating historical financial data to assess performance and make informed decisions. On the other hand, financial forecasting uses historical data and future projections to estimate future financial outcomes, aiding in planning, budgeting, and decision-making for future periods.

Comparative analysis can be used effectively to evaluate a company’s financial performance. You can see how your organization fares against industry peers or competitors using comparative financial data. It helps identify areas of strength and weakness, assess relative performance, and highlight deviations from industry norms. Comparative analysis provides insights into a company’s competitiveness, efficiency, and financial standing within its industry, aiding in strategic decision-making and performance improvement efforts.

Trend analysis examines financial data over multiple periods to identify patterns and directional changes. Assessing the company’s financial performance over time helps identify growth or decline trends and make predictions. Also, trend analysis provides insights into a company’s historical performance and aids in forecasting future outcomes. This supports informed decision-making and strategy development.

An analysis of the financials helps make investment decisions by evaluating a company’s financial health and assessing its profitability, liquidity, and solvency. It analyzes key financial ratios, historical performance, and industry trends to determine the investment’s potential risks and returns. Further, financial analysis aids in identifying undervalued or overvalued assets, supporting informed investment decisions, and optimizing investment portfolios.

Playing a significant role in creditworthiness assessment, financial analysis allows close scrutiny of a borrower’s financial statements, cash flow, and ratios. It helps lenders evaluate borrowers’ ability to repay debt, assess credit risk, and determine appropriate loan terms, supporting informed credit decisions and mitigating potential risks.

By analyzing metrics such as inventory turnover, receivables turnover, and asset turnover ratios, financial analysis helps identify areas of inefficiency, assess resource utilization, and optimize operational processes for improved financial performance.

Qualitative analysis complements quantitative financial analysis by considering non-financial factors such as market trends, industry dynamics, management competency, and brand reputation. It provides a broader context for financial analysis, enabling a comprehensive assessment of a company’s performance, risks, and opportunities.

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What Is a Business Plan?

Understanding business plans, how to write a business plan, common elements of a business plan, the bottom line, business plan: what it is, what's included, and how to write one.

Adam Hayes, Ph.D., CFA, is a financial writer with 15+ years Wall Street experience as a derivatives trader. Besides his extensive derivative trading expertise, Adam is an expert in economics and behavioral finance. Adam received his master's in economics from The New School for Social Research and his Ph.D. from the University of Wisconsin-Madison in sociology. He is a CFA charterholder as well as holding FINRA Series 7, 55 & 63 licenses. He currently researches and teaches economic sociology and the social studies of finance at the Hebrew University in Jerusalem.

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A business plan is a document that outlines a company's goals and the strategies to achieve them. It's valuable for both startups and established companies. For startups, a well-crafted business plan is crucial for attracting potential lenders and investors. Established businesses use business plans to stay on track and aligned with their growth objectives. This article will explain the key components of an effective business plan and guidance on how to write one.

Key Takeaways

• A business plan is a document detailing a company's business activities and strategies for achieving its goals.
• Startup companies use business plans to launch their venture and to attract outside investors.
• For established companies, a business plan helps keep the executive team focused on short- and long-term objectives.
• There's no single required format for a business plan, but certain key elements are essential for most companies.

Investopedia / Ryan Oakley

Any new business should have a business plan in place before beginning operations. Banks and venture capital firms often want to see a business plan before considering making a loan or providing capital to new businesses.

Even if a company doesn't need additional funding, having a business plan helps it stay focused on its goals. Research from the University of Oregon shows that businesses with a plan are significantly more likely to secure funding than those without one. Moreover, companies with a business plan grow 30% faster than those that don't plan. According to a Harvard Business Review article, entrepreneurs who write formal plans are 16% more likely to achieve viability than those who don't.

A business plan should ideally be reviewed and updated periodically to reflect achieved goals or changes in direction. An established business moving in a new direction might even create an entirely new plan.

There are numerous benefits to creating (and sticking to) a well-conceived business plan. It allows for careful consideration of ideas before significant investment, highlights potential obstacles to success, and provides a tool for seeking objective feedback from trusted outsiders. A business plan may also help ensure that a company’s executive team remains aligned on strategic action items and priorities.

While business plans vary widely, even among competitors in the same industry, they often share basic elements detailed below.

A well-crafted business plan is essential for attracting investors and guiding a company's strategic growth. It should address market needs and investor requirements and provide clear financial projections.

While there are any number of templates that you can use to write a business plan, it's best to try to avoid producing a generic-looking one. Let your plan reflect the unique personality of your business.

Many business plans use some combination of the sections below, with varying levels of detail, depending on the company.

The length of a business plan can vary greatly from business to business. Regardless, gathering the basic information into a 15- to 25-page document is best. Any additional crucial elements, such as patent applications, can be referenced in the main document and included as appendices.

Common elements in many business plans include:

• Executive summary : This section introduces the company and includes its mission statement along with relevant information about the company's leadership, employees, operations, and locations.
• Products and services : Describe the products and services the company offers or plans to introduce. Include details on pricing, product lifespan, and unique consumer benefits. Mention production and manufacturing processes, relevant patents , proprietary technology , and research and development (R&D) information.
• Market analysis : Explain the current state of the industry and the competition. Detail where the company fits in, the types of customers it plans to target, and how it plans to capture market share from competitors.
• Marketing strategy : Outline the company's plans to attract and retain customers, including anticipated advertising and marketing campaigns. Describe the distribution channels that will be used to deliver products or services to consumers.
• Financial plans and projections : Established businesses should include financial statements, balance sheets, and other relevant financial information. New businesses should provide financial targets and estimates for the first few years. This section may also include any funding requests.

Investors want to see a clear exit strategy, expected returns, and a timeline for cashing out. It's likely a good idea to provide five-year profitability forecasts and realistic financial estimates.

2 Types of Business Plans

Business plans can vary in format, often categorized into traditional and lean startup plans. According to the U.S. Small Business Administration (SBA) , the traditional business plan is the more common of the two.

• Traditional business plans : These are detailed and lengthy, requiring more effort to create but offering comprehensive information that can be persuasive to potential investors.
• Lean startup business plans : These are concise, sometimes just one page, and focus on key elements. While they save time, companies should be ready to provide additional details if requested by investors or lenders.

Why Do Business Plans Fail?

A business plan isn't a surefire recipe for success. The plan may have been unrealistic in its assumptions and projections. Markets and the economy might change in ways that couldn't have been foreseen. A competitor might introduce a revolutionary new product or service. All this calls for building flexibility into your plan, so you can pivot to a new course if needed.

How Often Should a Business Plan Be Updated?

How frequently a business plan needs to be revised will depend on its nature. Updating your business plan is crucial due to changes in external factors (market trends, competition, and regulations) and internal developments (like employee growth and new products). While a well-established business might want to review its plan once a year and make changes if necessary, a new or fast-growing business in a fiercely competitive market might want to revise it more often, such as quarterly.

What Does a Lean Startup Business Plan Include?

The lean startup business plan is ideal for quickly explaining a business, especially for new companies that don't have much information yet. Key sections may include a value proposition , major activities and advantages, resources (staff, intellectual property, and capital), partnerships, customer segments, and revenue sources.

A well-crafted business plan is crucial for any company, whether it's a startup looking for investment or an established business wanting to stay on course. It outlines goals and strategies, boosting a company's chances of securing funding and achieving growth.

As your business and the market change, update your business plan regularly. This keeps it relevant and aligned with your current goals and conditions. Think of your business plan as a living document that evolves with your company, not something carved in stone.

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How to Craft the Financial Section of Business Plan (Hint: It’s All About the Numbers)

Writing a small business plan takes time and effort … especially when you have to dive into the numbers for the financial section. But, working on the financial section of business plan could lead to a big payoff for your business.

Read on to learn what is the financial section of a business plan, why it matters, and how to write one for your company.  

What is the financial section of business plan?

Generally, the financial section is one of the last sections in a business plan. It describes a business’s historical financial state (if applicable) and future financial projections. Businesses include supporting documents such as budgets and financial statements, as well as funding requests in this section of the plan.  

The financial part of the business plan introduces numbers. It comes after the executive summary, company description , market analysis, organization structure, product information, and marketing and sales strategies.

Businesses that are trying to get financing from lenders or investors use the financial section to make their case. This section also acts as a financial roadmap so you can budget for your business’s future income and expenses. 

Why it matters 

The financial section of the business plan is critical for moving beyond wordy aspirations and into hard data and the wonderful world of numbers. 

Through the financial section, you can:

• Forecast your business’s future finances
• Budget for expenses (e.g., startup costs)
• Get financing from lenders or investors
• Grow your business

• Growth : 64% of businesses with a business plan were able to grow their business, compared to 43% of businesses without a business plan.
• Financing : 36% of businesses with a business plan secured a loan, compared to 18% of businesses without a plan.

So, if you want to possibly double your chances of securing a business loan, consider putting in a little time and effort into your business plan’s financial section. 

Writing your financial section

To write the financial section, you first need to gather some information. Keep in mind that the information you gather depends on whether you have historical financial information or if you’re a brand-new startup. 

Your financial section should detail:

• Business expenses 

Financial projections

Financial statements, break-even point, funding requests, exit strategy, business expenses.

Whether you’ve been in business for one day or 10 years, you have expenses. These expenses might simply be startup costs for new businesses or fixed and variable costs for veteran businesses. 

Take a look at some common business expenses you may need to include in the financial section of business plan:

• Licenses and permits
• Cost of goods sold 
• Rent or mortgage payments
• Payroll costs (e.g., salaries and taxes)
• Utilities 
• Equipment 
• Supplies 
• Advertising 

Write down each type of expense and amount you currently have as well as expenses you predict you’ll have. Use a consistent time period (e.g., monthly costs). 

Indicate which expenses are fixed (unchanging month-to-month) and which are variable (subject to changes). 

How much do you anticipate earning from sales each month? 

If you operate an existing business, you can look at previous monthly revenue to make an educated estimate. Take factors into consideration, like seasonality and economic ups and downs, when basing projections on previous cash flow.

Coming up with your financial projections may be a bit trickier if you are a startup. After all, you have nothing to go off of. Come up with a reasonable monthly goal based on things like your industry, competitors, and the market. Hint : Look at your market analysis section of the business plan for guidance. 

A financial statement details your business’s finances. The three main types of financial statements are income statements, cash flow statements, and balance sheets.

Income statements summarize your business’s income and expenses during a period of time (e.g., a month). This document shows whether your business had a net profit or loss during that time period. 

Cash flow statements break down your business’s incoming and outgoing money. This document details whether your company has enough cash on hand to cover expenses.

The balance sheet summarizes your business’s assets, liabilities, and equity. Balance sheets help with debt management and business growth decisions. 

If you run a startup, you can create “pro forma financial statements,” which are statements based on projections.

If you’ve been in business for a bit, you should have financial statements in your records. You can include these in your business plan. And, include forecasted financial statements. 

You’re just in luck. Check out our FREE guide, Use Financial Statements to Assess the Health of Your Business , to learn more about the different types of financial statements for your business.

Potential investors want to know when your business will reach its break-even point. The break-even point is when your business’s sales equal its expenses. 

Estimate when your company will reach its break-even point and detail it in the financial section of business plan.

If you’re looking for financing, detail your funding request here. Include how much you are looking for, list ideal terms (e.g., 10-year loan or 15% equity), and how long your request will cover. 

Remember to discuss why you are requesting money and what you plan on using the money for (e.g., equipment). 

Back up your funding request by emphasizing your financial projections. 

Last but not least, your financial section should also discuss your business’s exit strategy. An exit strategy is a plan that outlines what you’ll do if you need to sell or close your business, retire, etc. 

Investors and lenders want to know how their investment or loan is protected if your business doesn’t make it. The exit strategy does just that. It explains how your business will make ends meet even if it doesn’t make it. 

When you’re working on the financial section of business plan, take advantage of your accounting records to make things easier on yourself. For organized books, try Patriot’s online accounting software . Get your free trial now!

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Business Plan Financial Projections

Written by Dave Lavinsky

Financial projections are forecasted analyses of your business’ future that include income statements, balance sheets and cash flow statements. We have found them to be an crucial part of your business plan for the following reasons:

• They can help prove or disprove the viability of your business idea. For example, if your initial projections show your company will never make a sizable profit, your venture might not be feasible. Or, in such a case, you might figure out ways to raise prices, enter new markets, or streamline operations to make it profitable. 
• Financial projections give investors and lenders an idea of how well your business is likely to do in the future. They can give lenders the confidence that you’ll be able to comfortably repay their loan with interest. And for equity investors, your projections can give them faith that you’ll earn them a solid return on investment. In both cases, your projections can help you secure the funding you need to launch or grow your business.
• Financial projections help you track your progress over time and ensure your business is on track to meet its goals. For example, if your financial projections show you should generate $500,000 in sales during the year, but you are not on track to accomplish that, you’ll know you need to take corrective action to achieve your goal.

Below you’ll learn more about the key components of financial projections and how to complete and include them in your business plan.

What Are Business Plan Financial Projections?

Financial projections are an estimate of your company’s future financial performance through financial forecasting. They are typically used by businesses to secure funding, but can also be useful for internal decision-making and planning purposes. There are three main financial statements that you will need to include in your business plan financial projections:

1. Income Statement Projection

The income statement projection is a forecast of your company’s future revenues and expenses. It should include line items for each type of income and expense, as well as a total at the end.

There are a few key items you will need to include in your projection:

• Revenue: Your revenue projection should break down your expected sales by product or service, as well as by month. It is important to be realistic in your projections, so make sure to account for any seasonal variations in your business.
• Expenses: Your expense projection should include a breakdown of your expected costs by category, such as marketing, salaries, and rent. Again, it is important to be realistic in your estimates.
• Net Income: The net income projection is the difference between your revenue and expenses. This number tells you how much profit your company is expected to make.

Sample Income Statement

2. cash flow statement & projection.

The cash flow statement and projection are a forecast of your company’s future cash inflows and outflows. It is important to include a cash flow projection in your business plan, as it will give investors and lenders an idea of your company’s ability to generate cash.

There are a few key items you will need to include in your cash flow projection:

• The cash flow statement shows a breakdown of your expected cash inflows and outflows by month. It is important to be realistic in your projections, so make sure to account for any seasonal variations in your business.
• Cash inflows should include items such as sales revenue, interest income, and capital gains. Cash outflows should include items such as salaries, rent, and marketing expenses.
• It is important to track your company’s cash flow over time to ensure that it is healthy. A healthy cash flow is necessary for a successful business.

Sample Cash Flow Statements

3. balance sheet projection.

The balance sheet projection is a forecast of your company’s future financial position. It should include line items for each type of asset and liability, as well as a total at the end.

A projection should include a breakdown of your company’s assets and liabilities by category. It is important to be realistic in your projections, so make sure to account for any seasonal variations in your business.

It is important to track your company’s financial position over time to ensure that it is healthy. A healthy balance is necessary for a successful business.

Sample Balance Sheet

How to create financial projections.

Creating financial projections for your business plan can be a daunting task, but it’s important to put together accurate and realistic financial projections in order to give your business the best chance for success.  

Cost Assumptions

When you create financial projections, it is important to be realistic about the costs your business will incur, using historical financial data can help with this. You will need to make assumptions about the cost of goods sold, operational costs, and capital expenditures.

It is important to track your company’s expenses over time to ensure that it is staying within its budget. A healthy bottom line is necessary for a successful business.

Capital Expenditures, Funding, Tax, and Balance Sheet Items

You will also need to make assumptions about capital expenditures, funding, tax, and balance sheet items. These assumptions will help you to create a realistic financial picture of your business.

Capital Expenditures

When projecting your company’s capital expenditures, you will need to make a number of assumptions about the type of equipment or property your business will purchase. You will also need to estimate the cost of the purchase.

When projecting your company’s funding needs, you will need to make a number of assumptions about where the money will come from. This might include assumptions about bank loans, venture capital, or angel investors.

When projecting your company’s tax liability, you will need to make a number of assumptions about the tax rates that will apply to your business. You will also need to estimate the amount of taxes your company will owe.

Balance Sheet Items

When projecting your company’s balance, you will need to make a number of assumptions about the type and amount of debt your business will have. You will also need to estimate the value of your company’s assets and liabilities.

Financial Projection Scenarios

Write two financial scenarios when creating your financial projections, a best-case scenario, and a worst-case scenario. Use your list of assumptions to come up with realistic numbers for each scenario.

Presuming that you have already generated a list of assumptions, the creation of best and worst-case scenarios should be relatively simple. For each assumption, generate a high and low estimate. For example, if you are assuming that your company will have $100,000 in revenue, your high estimate might be $120,000 and your low estimate might be $80,000.

Once you have generated high and low estimates for all of your assumptions, you can create two scenarios: a best case scenario and a worst-case scenario. Simply plug the high estimates into your financial projections for the best-case scenario and the low estimates into your financial projections for the worst-case scenario.

Conduct a Ratio Analysis

A ratio analysis is a useful tool that can be used to evaluate a company’s financial health. Ratios can be used to compare a company’s performance to its industry average or to its own historical performance.

There are a number of different ratios that can be used in ratio analysis. Some of the more popular ones include the following:

• Gross margin ratio
• Operating margin ratio
• Return on assets (ROA)
• Return on equity (ROE)

To conduct a ratio analysis, you will need financial statements for your company and for its competitors. You will also need industry average ratios. These can be found in industry reports or on financial websites.

Once you have the necessary information, you can calculate the ratios for your company and compare them to the industry averages or to your own historical performance. If your company’s ratios are significantly different from the industry averages, it might be indicative of a problem.

Be Realistic

When creating your financial projections, it is important to be realistic. Your projections should be based on your list of assumptions and should reflect your best estimate of what your company’s future financial performance will be. This includes projected operating income, a projected income statement, and a profit and loss statement.

Your goal should be to create a realistic set of financial projections that can be used to guide your company’s future decision-making.

Sales Forecast

One of the most important aspects of your financial projections is your sales forecast. Your sales forecast should be based on your list of assumptions and should reflect your best estimate of what your company’s future sales will be.

Your sales forecast should be realistic and achievable. Do not try to “game” the system by creating an overly optimistic or pessimistic forecast. Your goal should be to create a realistic sales forecast that can be used to guide your company’s future decision-making.

Creating a sales forecast is not an exact science, but there are a number of methods that can be used to generate realistic estimates. Some common methods include market analysis, competitor analysis, and customer surveys.

Create Multi-Year Financial Projections

When creating financial projections, it is important to generate projections for multiple years. This will give you a better sense of how your company’s financial performance is likely to change over time.

It is also important to remember that your financial projections are just that: projections. They are based on a number of assumptions and are not guaranteed to be accurate. As such, you should review and update your projections on a regular basis to ensure that they remain relevant.

Creating financial projections is an important part of any business plan. However, it’s important to remember that these projections are just estimates. They are not guarantees of future success.

Business Plan Financial Projections FAQs

What is a business plan financial projection.

A business plan financial projection is a forecast of your company's future financial performance. It should include line items for each type of asset and liability, as well as a total at the end.

What are annual income statements? 

The Annual income statement is a financial document and a financial model that summarize a company's revenues and expenses over the course of a fiscal year. They provide a snapshot of a company's financial health and performance and can be used to track trends and make comparisons with other businesses.

What are the necessary financial statements?

The necessary financial statements for a business plan are an income statement, cash flow statement, and balance sheet.

How do I create financial projections?

You can create financial projections by making a list of assumptions, creating two scenarios (best case and worst case), conducting a ratio analysis, and being realistic.

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Example of Financial Analysis for Business Plan: Basic Guide

Table of Contents

Financial analysis is a key component of any successful business plan. An example of financial analysis for business plan can benefit any entrepreneur looking to get their startup off the ground.  Knowing how much money you need to start or run your business and what resources are available to help you succeed is essential. With this in mind, companies must conduct thorough financial analyses as part of their planning process.  This blog article focuses on business plan financial analysis, discusses its importance, and provides a template to guide you. Let’s get started from the basics.

What Is Financial Analysis

Financial analysis is an integral part of business planning. It helps business owners set short- and long-term financial goals, analyze business performance , and make strategic resource allocation decisions. The financial analysis also provides a way to monitor progress towards those goals and identifies any potential risks or opportunities that may arise. 

Importance of Financial Analysis in Business Planning

Financial analysis can help identify opportunities for diversification or expansion and assess the impact of changes in taxes, regulations, or other factors.  It is critical to ensure that any business plan is realistic and achievable. It ensures that resources are being used efficiently and that financial goals are attainable.  The financial analysis allows for flexibility in strategy development should unexpected opportunities or risks arise. It is essential to ensure the business is on track toward reaching its financial goals.  Overall, financial analysis is an essential step in creating a successful business plan. By conducting a thorough financial analysis, businesses can ensure their plans are realistic and achievable. It can also identify potential risks and opportunities and adjust strategies for maximum success.

What to Include in a Financial Analysis for Business Plans

Once the financial analysis is complete, a business plan should be developed to include the findings of that analysis. A typical financial analysis for a business plan includes the following: 

Budget and Forecasting

This includes creating an accurate and comprehensive budget that reflects historical performance and planned income and expenses over the coming years. 

Cash Flow Analysis

This includes examining cash inflows and outflows to identify any potential shortfalls or risks that could impact the business’s future stability.

Performance Analysis

This includes analyzing sales trends, identifying new opportunities for increasing revenue, and examining expenses and costs associated with running the business. 

Debt Obligations

This includes evaluating any debt obligations and creating strategies to reduce liability.

Cost-Benefit Analysis/Financial Modeling

This includes assessing the impact of potential investments or changes in taxes, regulations, or other factors on future performance.  By conducting a thorough financial analysis, businesses can ensure their plans are realistic and achievable. This will provide the insight needed to develop strategies that lead to success. 

Example of Financial Analysis for Business Plan

Creating a financial analysis for business plan is an easy process with the proper tools and resources. A typical financial analysis includes budgeting, cash flow analysis, performance evaluation, debt obligations, cost-benefit analyses, and financial modeling.  To help make this process simpler, here is a template that businesses can use to conduct a financial analysis:

Step 1: Budget and Forecasting

• Create an accurate and comprehensive budget 
• Review historical performance 
• Plan income and expenses for the coming years 
• Analyze data for any potential trends or patterns 

Step 2: Cash Flow Analysis

• Examine cash inflows and outflows 
• Identify potential shortfalls or risks 

Step 3: Performance Analysis

• Analyze sales trends 
• Identify new opportunities for increasing revenue 
• Examine expenses and costs associated with running the business 

Step 4: Debt Obligations

• Evaluate any debt obligations 
• Create strategies to reduce liability 

Step 5: Cost-Benefit Analysis/Financial Modeling

• Assess the impact of potential investments or changes in taxes, regulations, or other factors on future performance 
• Identify any potential risks as well as opportunities for growth and expansion. 

This template provides the insight needed to develop strategies that lead to success.

Financial analysis is an essential step in creating a successful business plan . Using our financial analysis for business planning example, you’ll know what aspects to focus on and what to include and ignore. With the proper tools and resources, businesses can make financial analysis a beneficial learning experience.

Abir Ghenaiet

Abir is a data analyst and researcher. Among her interests are artificial intelligence, machine learning, and natural language processing. As a humanitarian and educator, she actively supports women in tech and promotes diversity.

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Writing a Business Plan—Financial Projections

Spell out your financial forecast in dollars and sense

Creating financial projections for your startup is both an art and a science. Although investors want to see cold, hard numbers, it can be difficult to predict your financial performance three years down the road, especially if you are still raising seed money. Regardless, short- and medium-term financial projections are a required part of your business plan if you want serious attention from investors.

The financial section of your business plan should include a sales forecast , expenses budget , cash flow statement , balance sheet , and a profit and loss statement . Be sure to follow the generally accepted accounting principles (GAAP) set forth by the Financial Accounting Standards Board , a private-sector organization responsible for setting financial accounting and reporting standards in the U.S. If financial reporting is new territory for you, have an accountant review your projections.

Sales Forecast

As a startup business, you do not have past results to review, which can make forecasting sales difficult. It can be done, though, if you have a good understanding of the market you are entering and industry trends as a whole. In fact, sales forecasts based on a solid understanding of industry and market trends will show potential investors that you've done your homework and your forecast is more than just guesswork.

In practical terms, your forecast should be broken down by monthly sales with entries showing which units are being sold, their price points, and how many you expect to sell. When getting into the second year of your business plan and beyond, it's acceptable to reduce the forecast to quarterly sales. In fact, that's the case for most items in your business plan.

Expenses Budget

What you're selling has to cost something, and this budget is where you need to show your expenses. These include the cost to your business of the units being sold in addition to overhead. It's a good idea to break down your expenses by fixed costs and variable costs. For example, certain expenses will be the same or close to the same every month, including rent, insurance, and others. Some costs likely will vary month by month such as advertising or seasonal sales help.

Cash Flow Statement

As with your sales forecast, cash flow statements for a startup require doing some homework since you do not have historical data to use as a reference. This statement, in short, breaks down how much cash is coming into your business on a monthly basis vs. how much is going out. By using your sales forecasts and your expenses budget, you can estimate your cash flow intelligently.

Keep in mind that revenue often will trail sales, depending on the type of business you are operating. For example, if you have contracts with clients, they may not be paying for items they purchase until the month following delivery. Some clients may carry balances 60 or 90 days beyond delivery. You need to account for this lag when calculating exactly when you expect to see your revenue.

Profit and Loss Statement

Your P&L statement should take the information from your sales projections, expenses budget, and cash flow statement to project how much you expect in profits or losses through the three years included in your business plan. You should have a figure for each individual year as well as a figure for the full three-year period.

Balance Sheet

You provide a breakdown of all of your assets and liabilities in the balances sheet. Many of these assets and liabilities are items that go beyond monthly sales and expenses. For example, any property, equipment, or unsold inventory you own is an asset with a value that can be assigned to it. The same goes for outstanding invoices owed to you that have not been paid. Even though you don't have the cash in hand, you can count those invoices as assets. The amount you owe on a business loan or the amount you owe others on invoices you've not paid would count as liabilities. The balance is the difference between the value of everything you own vs. the value of everything you owe.

Break-Even Projection

If you've done a good job projecting your sales and expenses and inputting the numbers into a spreadsheet, you should be able to identify a date when your business breaks even—in other words, the date when you become profitable, with more money coming in than going out. As a startup business, this is not expected to happen overnight, but potential investors want to see that you have a date in mind and that you can support that projection with the numbers you've supplied in the financial section of your business plan.

Additional Tips

When putting together your financial projections, keep some general tips in mind:

• Get comfortable with spreadsheet software if you aren't already. It is the starting point for all financial projections and offers flexibility, allowing you to quickly change assumptions or weigh alternative scenarios. Microsoft Excel is the most common, and chances are you already have it on your computer. You can also buy special software packages to help with financial projections.
• Prepare a five-year projection . Don’t include this one in the business plan, since the further into the future you project, the harder it is to predict. However, have the projection available in case an investor asks for it.
• Offer two scenarios only . Investors will want to see a best-case and worst-case scenario, but don’t inundate your business plan with myriad medium-case scenarios. They likely will just cause confusion.
• Be reasonable and clear . As mentioned before, financial forecasting is as much art as science. You’ll have to assume certain things, such as your revenue growth, how your raw material and administrative costs will grow, and how effective you’ll be at collecting on accounts receivable. It’s best to be realistic in your projections as you try to recruit investors. If your industry is going through a contraction period and you’re projecting revenue growth of 20 percent a month, expect investors to see red flags.

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9 Elements of a Successful Financial Plan for a Small Business

Improve your chances of growth by covering these bases in your plan.

Table of Contents

Many small businesses lack a complete, well-thought-out financial plan — even though evidence shows one is essential for long-term success and growth. A business financial plan can help an organization better manage cash flow, guide investment and financing decisions, and take advantage of growth opportunities with confidence. We’ll explain nine elements of a solid business financial plan. We’ll also share tips for writing a comprehensive plan to guide and nurture your company’s financial health.

What is a business financial plan, and why is it important?

A business financial plan is an overview of an organization’s financial situation and a forward-looking growth projection. It can help you manage cash flow and accounts for months when revenue might be lower than expected. It also helps you plan for taxes and create a business budget that accounts for daily and monthly expenses.

A financial plan helps business leaders make informed decisions about purchases, debt, hiring, expense control and overall operations for the year ahead. It’s particularly important if a business owner is looking to sell, attract investors or enter a partnership with another business.

However, perhaps the most crucial benefit of a financial plan is helping you focus on your business’s long-term growth. It allows you to look beyond your company’s day-to-day activities and avoid losing sight of your goals. Focusing on your long-term vision ensures you prioritize your financial resources.

9 components of a successful financial plan for business

Your unique business financial plan may differ by industry and business type. However, all businesses should include the following nine components.

1. Sales forecasting.

Sales forecasting is a crucial element of your business financial plan. A sales forecast estimates how much of a product or service a business will sell in the next week, month, quarter or year.

Sales forecasting can help you identify patterns in your sales cycles and better understand — and improve — your business. For example, a seasonal business can use sales forecasting to inform strategies for improving off-season sales and becoming a year-round venture. Another business might use sales forecasting to understand how factors like the weather or the economy influence sales fluctuations and prepare more effectively.

This knowledge is invaluable as you plan marketing initiatives. Additionally, sales forecasting can be the foundation of your business growth plan and goals. For instance, you could aim to improve your sales by 10 percent over each previous period.

2. Expense outlay.

Your financial plan should include an accounting of all regular expenses, expected future expenses and associated expenses.

• Regular expenses: Regular expenses are your business’s current ongoing costs; this includes operational and overhead costs such as rent, utilities and payroll. They also include standard yearly business activities, such as conference attendance, advertising and marketing, and the office holiday party. It’s advisable to distinguish essential expenses from expenses that can be reduced or eliminated if needed.
• Expected future expenses: Expected future expenses are known future costs, such as tax rate increases, minimum wage increases or maintenance needs. You should also consider unexpected future expenses, such as damage to your business caused by fire, flood or other unexpected disasters (and costs for disaster preparedness ).
• Associated expenses: Associated expenses are the estimated costs of various initiatives, such as hiring new employees, investing in employee training , expanding your delivery area and opening another business location . An accurate estimate of associated expenses helps you properly manage growth and prevents your business from exceeding your cost capabilities. As with expected future expenses, understanding how much capital is required to accomplish various growth goals helps you make the right decision about financing options.

3. Statement of financial position (assets and liabilities).

Business assets and liabilities are the foundation of your company’s balance sheet and the primary determinants of your business’s net worth. Tracking assets and liabilities allows you to maximize your business’s potential value.

Small businesses frequently undervalue their assets (such as machinery, property or inventory) and fail to properly account for outstanding bills. Your balance sheet offers a deeper view of your business’s health than does a profit-and-loss statement or a cash flow report.

4. Cash flow projection.

You should be able to predict your cash flow on a monthly, quarterly and annual basis.

Projecting cash flow for the entire year allows you to anticipate financial struggles or challenges. It can also help you identify a cash flow problem before it harms your business. You can set the most appropriate payment terms — such as how much you charge a customer upfront or how many days after invoicing you expect payment.

A cash flow projection reveals how much money will remain at the end of each month, allowing you to plan for expansion or other investments. It also helps you budget. For example, you can spend less during one month to meet the anticipated cash needs of another month.

5. Break-even analysis.

A break-even analysis evaluates fixed costs relative to the profit earned by each additional unit you produce and sell. This analysis is essential to understanding your business’s revenue and potential costs vs. profits of expansion or growth.

Having your expenses fully fleshed out, as described above, makes your break-even analysis even more accurate and useful, allowing you to:

• Determine pricing (set a price that gives you a comfortable margin over your expenses while allowing your business to remain competitive).
• Understand how many units you must sell at specific prices to cover costs.

6. Operations plan.

To run your business efficiently, you must craft a detailed overview of your operational needs. You can make more informed decisions for your business’s growth and efficiency when you:

• Understand what roles are required to operate your business at various output volumes.
• How much output or work each employee can handle.
• The costs of each stage of your supply chain.

Tightly controlling expenses — such as payroll or supply chain costs — relative to growth is essential. An operations plan can also help determine if there is room to optimize operations or supply chains through automation, new technology or superior vendors.

Focusing on profit margins is also essential for many businesses. For example, credit card processing fees can take a big bite out of your bottom line. Managing these costs can make the difference between turning a profit or going into the red.

7. Funding plan.

Your financial plan will include a funding plan. While some business owners bootstrap their companies out of their own pockets, many others will require funding. In your funding plan, you must consider whether to use debt or equity financing and outline the reasons for your decision. If you decide to take on debt, ensure you understand the process of applying for a business loan . U.S. Small Business Administration (SBA) loans are especially prized for their low interest rates and long repayment periods.

Equity financing involves finding business investors . In exchange for funding your company, investors will take an ownership stake in the business. It’s crucial to know how to present your idea to investors to maximize your chances of a successful pitch.

8. Investment analysis.

An investment analysis looks at industry trends, investment opportunities, and resource allocation to ensure funds are spent wisely and effectively. For instance, determining which projects will yield the highest return on investment (ROI) is crucial for long-term success. Acquiring customers is especially important for growing your business. So, for example, it’s essential to measure the ROI of digital marketing campaigns to maximize limited investment funds. By incorporating investment analysis into your financial plan, you can make informed decisions that drive growth and profitability.

9. Risk management plan.

While it’s essential to plan for success, it’s also crucial to identify financial risks and develop mitigation strategies. Does your industry tend to move through cycles of boom and bust? Is there an elevated risk of litigation? Does your business face potential disruption from weather-related events? Ensure you create contingency plans for potential financial setbacks and secure appropriate insurance.

Tips on writing a business financial plan

Business owners should create a financial plan annually to ensure they have a clear and accurate picture of their business’s finances and a realistic view of future growth or expansion. Here are some tips for writing a comprehensive business financial plan.

1. Review the previous year’s financial plan.

It’s a good idea to compare the previous year’s plan against actual performance and finances to see how accurate it was. That way, you can address any discrepancies or overlooked elements in next year’s plan.

2. Collaborate with other departments.

The individual charged with creating the business financial plan should collaborate — mainly with the finance department, human resources department, sales team , operations leader and those in charge of machinery, vehicles or other significant business tools.

Each division should provide the necessary data about projections, value and expenses. These elements combine to create a comprehensive financial picture of the business.

3. Use available resources and financial plan templates.

Business owners don’t have to go it alone to create their financial plans. Numerous resources exist to provide guidance and even templates. Consider the following options:

• SBA: The SBA is an excellent resource for learning about financial plans. This knowledge includes the necessary elements and how best to work with the different departments in your business to collect the required information. Additionally, the SBA’s Learning Platform offers a course on how to create a business plan; this involves financial planning elements as well as worksheets and templates to help you get started. You can seek additional help and more personalized service from your local SBA office.
• SCORE: SCORE (Service Corps of Retired Executives), the SBA’s nonprofit partner, is the largest volunteer network of business mentors. It began as a group of retired executives but has expanded to include business owners and executives from many industries. SCORE provides free advice, group and online learning, and mentoring resources. SCORE’s business plan and finance templates are excellent resources for small business owners.
• Accountants and financial professionals: You can ask your business accountant for financial plan guidance; many accountants provide financial planning services in addition to their usual tax and finance services.
• Microsoft 365: Microsoft 365 offers numerous financial management templates , business budget templates and other resources.
• QuickBooks: QuickBooks has several resources, including business plan templates and budgeting tools.
• Additional templates: BDC’s free business financial plan template , Hubspot’s financial planning templates and JotForm’s financial plan template .

Mike Berner contributed to this article.

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