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How much does it cost to prepare financial projections

You are considering getting financial projections prepared but worried about how much this might cost.

You have probably heard a lot of numbers bandied about.  I have heard of business paying up to €5,000 for a set of projections.  Some of those numbers can be quite scary.  Yet, you realise that there are a lot of benefits to come from doing the projections.  What are you to do?

You really want to have a good understanding of how much projections will cost so that you can make an informed decision.

Over the past twenty years, I have prepared financial projections for many SMES of all shapes and sizes.  It;s quite difficult to give a “one size fits all” answer to that question.  It depends on so many things.  Before I explain the various factors, it might be helpful for you to read my blog article on How to Prepare Financial Projections.

Factors affecting cost of financial projections.

Your first time to prepare Financial Projections

If this is your first time having financial projections done, it will most likely take a little bit longer.  For each set of projections, I have to have a model for that business-usually an excel spreadsheet.  If one already exists then that will save some time.  If it doesn’t exist already then I will have to build one.

I have some templates for different types of businesses but nearly all businesses have some elements unique to themselves which means that any  template has to be customised.

The other factor is that we need to understand the relationships between activities, costs and resources.  If you have already prepared financial projections, you are likely to be aware of these relationships.  If not, I will have to spend time with you teasing them out.

What type of business are we preparing financial projections for?

The second key area is the type of business that we are preparing projections for.  Some businesses are pretty simple but others have a lot more complexity.

Over the years I have prepared projections for the following businesses –  professional services, food production, engineering, engineering services, scientific instrument manufacturing, retail, distribution, software developers including SAAS developer.  They were all different and each had its unique issues.

The simplest businesses to prepare projections for are retail businesses.  In that case, the sales should drive the costs of sales calculations and the overhead is usually fairly stable.  Your stock holding levels will usually be the key variable affecting cash flow

If the business is manufacturing, then we need to understand the process.  How many different stages does production go through?  What are the stock holding levels at each stage?  How long does it take to acquire raw materials?

If it’s a software business, then you are likely to have an initial product development costs followed by a period where you will have ongoing product development and maintenance costs.

So you see, that its important that we understand your activities, what they will consume and the payment profile for each of these activities.

Size of the Business

A small business with few employee will be much easier to prepare projections for than a larger business with more employees organised in a number of departments.  If there are several locations that will also have to be factored into.  If you have a sales team or a service team on the road, then we will have to build up the costs for that.

The greater the complexity the longer it takes.

Stage of development of the business

If you are preparing projections for a start up that usually takes longer than projections for an established business.  The reason for that is that with an established business you have a track record and you have historical information that can be used.  With a startup, you have no history so you have to invest more time in teasing out what the business is going to look like.

Who are the financial projections for?

The purpose of the projections is very important.  If its for investors, then you will have to put a bit more time into making sure that your assumptions are solid and that they can withstand robust interrogation by professional investors.  You will probably have to have prepared a couple of scenarios so that you can deal with what if questions.

If you are preparing them for your own internal use, you will still want reliable numbers but you will likely not be as concerned about presentation and you may  be more confident in your assumptions so you will not be as anxious to explore as many different scenarios.

Do you have reliable figures for the opening position?

Sometimes I have been asked to prepare projections for businesses that don’t have management accounts.   In that case, you have to either start the projections for the last good set of accounts or else estimate the management accounts.

Its obviously preferable and highly recommended that a business have management accounts.  However you  can only work with what you have.  So sometimes, you have to invest more time in trying to establish and be confident about the starting position.

How many reviews will be necessary before you are happy with the outcome?

Once I prepare the first pass, then we sit and review the outputs.  At that point,  any issues that you will have with both the assumptions and other key inputs will become clear.  Depending on the significance of these issues, we will have to invest time in refining the inputs and the assumptions.

For some businesses, there will be no issues.  This is usually the case for more mature businesses where the owner has a really good understanding of the businesses.

For other businesses, typically earlier stage businesses or businesses where the owners have not prepared projections before, then the first pass will usually generate a lot of discussion points and the owner may need to take some time to consider the inputs.  The owner may also need to have a few different iterations run to better understand the significance of the various assumptions

Conclusion

As you will understand from reading the article, there are a lot of factors that determine the costs.   Every business is different and its not possible to give a simple answer as to the cost of preparing projections.

What I can do is give you some guidelines.

The shortest time has been about 2-4 hours to prepare projections for a small retail operation that had already got a good handle on the business.  In cost terms, that will work out between €200 and €500.

For a more complex manufacturing business trying to raise money from investors, the time to prepare projections has been 3-4 days.   In that case, you are looking at a cost of €2000-3000.

I would usually find around two days, say € 1400-1500, is a good estimate for most businesses but, as you will now appreciate, there are many factors that can change that.

Before offering a firm estimate, I prefer to meet with the client, initially, so that I can understand exactly will be involved.  That will give me more confidence in my estimates.

If you are thinking about having projections done, feel free to contact me so that I can give you a cost estimate tailored to your unique circumstances.

 

 

Do you know much it costs you to open your doors? Predicting Business Costs.

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A friend of mine, a retired banker with lots of experience dealing with owner managers, has a phrase he uses about those business owners that he feels are in control of their business.  What he says is that ‘they know exactly how much it costs them to open their doors in the morning.’  Are you one of those businesses?  Many people think that this is a very difficult thing to be able to do, but in fact it’s not.

Overview

To know what it costs to open your doors, your first need to know what you will be doing when you open the doors.  So you need to have a good sense of what the activities will be like the day or week.  In the short term – ie next few weeks.

In most cases that will not be too difficult.   You may have an order book that will tell you what will ship the next few weeks.  If its retail, you should have data over the last few years that will give good guidance on what happens at this time of year.

Once you know what’s going to be happening, then you should be able to put costs on that.

The importance of a budget

A good business will prepare a budget of some sort at the start of the year.  When preparing that budget, the business will develop assumptions or rules about the various costs.  You will use those rules throughout the year to help you anticipate what will happen and to convert the expected activity into reasonable cost estimates.

Direct Costs

If it’s a factory making products, the cost of the product will be made up of direct costs and indirect costs.

Direct costs are those costs that are easily linked to the product.  If I am making a chair for example I can see the timber that went into that chair, I know how much timber was needed and I know what it cost. The cost of timber in the chair can be directly linked to purchases of timber.

Similarly, if it’s a convenience store, I can say that for every item that I sell, eg a litre of milk, then I must buy in a litre of milk in order to have it to sell.  So the cost of the litre of milk is a direct cost.  If I sell 10 litres I have to buy 10 litres.  If I sell 200 litres then I have to buy 200 litres.

Labour can also be a direct cost.  Even though, we can’t point to a chair and see the labour that went into making it, we might know that a workman might make 10 chairs a days.  So if we have to make 100 chairs then we can calculate that we will need 10 workmen to do that.  As we know what a workman costs, we can predict our labour cost.

Indirect costs or Overhead Costs

These are costs where it is harder to make the link between the individual item sold and the costs that the business incurs. For example, if I have a convenience store and I pay €1,000 rent per month.  I cannot link the rent to any particular sale – there is not a direct relationship.  I may sell € 5,000 worth of goods on a Monday and € 15,000 worth of goods on a Saturday but the rent cost for each day is the same.

These costs that are hard to link to a product are often called overhead costs. I think of them as costs that are hanging over the business and that vary little for different levels of activity.

Indirect or overhead costs will include marketing costs, premises costs, office consumables, staff travel, professional fee and financing costs.

In some businesses, eg a convenience store, labour costs are more of an overhead.  I will have to staff my shop to a certain level even though sales for can fluctuate.  For example, a restaurant will have wait staff on in anticipation of trade but the level of trade may vary significantly.  For these businesses, we have to plan on having staffing levels that will not vary much will activity.

When you are doing your budgets or projections at the start of the year, you list down all the different types of overheads that you have and you put in your best estimate of what is going to happen. In that way, you pull together some sort of projection of your P&L as to what your costs are going to be.

Applying this understanding of costs

As you progress through the year, you know from your order book, or from your activity plans, what’s likely to be happening in the weeks ahead. With this awareness, you are likely to start asking yourself- “if my sales go up – what is going to happen to my materials?”

You can then predict that if your sales are going to go up by 20%, your materials might go up by 20%. If your sales go up by 20%, but the mix of sales differs, your materials mightn’t go up in exactly the same way, but if you understand your costs and you understand your sales, you will have a very good idea of what is going to happen to your materials.

Similarly, if your sales are going to go up and your activities are going to go up, you are going to have a very good idea of what is going to happen to your labour.   Think back to the example about the chair making factory.

So as a good business owner/manager, you will have a sort of sense of what is coming at you and you will be quickly able to turn that sense into rough and ready figures – but reasonably accurate rough and ready figures.

Finally, you will be able to run through your overheads – certain overheads will not vary at all – rent for example. Other overheads, such as electricity, may vary.  If you are running machines for longer, then you are likely to use more electricity.  While some overheads are reasonably constant, there are other overheads that you will need to tweak.

You know what is happening in your business and you should be able to estimate what is likely to be happening to your overhead from that. You can do that very quickly, you can do rough numbers or you can do it a bit more precisely. For most people, it is enough to be able to do this roughly.

Building your knowledge of the business

But how do you develop this knowledge? – That is the question I am most often asked. There is definitely an element that comes from experience, but even with the experience, it all goes down to understanding the accounts and the information that you already have about the business.

If you prepare accounts every month and you spend some time understanding those accounts, and even better, if you have what I call a feedback loop, or a feedback control, you will quickly improve you understanding of what is happening in the business.

The feedback loop

The feedback loop can be summarised as Plan – Act – Review – Adjust.

We’d say that at the start of the year you make a PLAN for the business, and then you go ahead and take ACTION to deliver on that plan.

Out of that action you’re going to get results, so you look at the results, you REVIEW these results. When reviewing, you ask yourself – ‘Did what I expected to happen, happen?’, ‘Was it different?’, ‘Why was it different?’.  As you review these results you’re going to get learnings. You absorb and apply those learnings and then you ADJUST your  plans for the next period.

Applying Feedback Loop to Management

Putting all this together, you start off with a budget or a projection (PLAN)  , you run your business (ACTION), you prepare your accounts and then you go back and see how do my accounts compare to my original budget. What was different? Aah, I misunderstood that or something changed. (REVIEW).  Through this review process you develop your experience.  Then you take that learning and revise your projections (ADJUST).

And that is how you develop your learning.

And that learning helps you develop a good understanding of the costs of your business, and how they relate to the activities of your business.   Then you will be one of those business owners who knows how much it will cost them to open the doors of their business.

If you have any questions, or items needing clarification, feel free to drop me an email.  Remember, we’re available if you want to improve your financial control expertise.