Plan for Success: The Dos and Don'ts of Financial Projections

When writing a business plan, one of the most important, yet often most intimidating, sections is the one containing financial projections. Entrepreneurs can write for pages about their concept and the expected market demand, but when it comes to projecting income, cash flow and expenses-especially in a difficult and uncertain economy-some panic.

Rest assured, financial projections are not as difficult as they seem. As long as you are grounded in good accounting principles and have reasonable knowledge of your industry and business, you will be able to create a worthy preliminary business plan.

For even more guidance, here are the most important dos and don'ts of financial projections.

DO create different projection scenarios

Financial projections should be both short-term and medium-term. Very rarely do investors want to see long-term financial projections, because the further away you project, the more inaccurate you become.

For a short-term scenario, break down the projections for the first year on a month-by-month basis. After that, some advise using quarterly projections for the second year, while others recommend a three-year projection broken down by year. That decision is yours to make, and may be guided by the requirements of various banks and investors that are asking to see your business plan.

In addition to temporal scenarios, you should also create market condition and growth scenarios. Limit these to two; the most common are best- and worst-case scenarios, but you can also frame them as conservative and aggressive growth scenarios.

DON'T forget startup fees

Make sure your first-year projections account for startup fees such as licensing, registering, incorporating, permits, office supplies and equipment, and more. Also, remember that some of these will be recurring, such as registration filing fees.

DO explain your assumptions

Investors and banks know that entrepreneurs are optimistic about the success of their ventures. They therefore keep a close eye on projections to make sure things are not exaggerated.

To defend yourself from any exaggeration claims, make sure you are reasonable about your forecasts. It may help to work from the bottom up-basing your projections on information such as the costs and opportunities that come with different distribution channels, manufacturers and suppliers etc.-instead of doing top down projections, which are based on goals such as market share and profit margins.

Whatever assumptions you do make, have a section in your business plan that explains them and the research behind them, to reassure potential investors.

DON'T be shy about asking for help

Even if it's just to review your projections, there's nothing wrong with using an accountant. All financial projections must follow Generally Accepted Accounting Principles so if you are not familiar with those, an accountant may be useful.

If you need more help with sales forecasts and expected expenditures, consider looking at the Statement Studies provided by the Risk Management Association. These studies provide the financial statements from small and mid-size businesses in a variety of industries, so you can examine those from your industry to see what their sales and expenditures look like.

If the format of the financial projection section is your problem, the Small Business Administration has a variety of Web tools available to help you write and format your plan.

Remember, though it may be the foundation of your startup right now, the business plan is not set in stone. In fact, the best business plans are continually updated and revised.