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Financial Management & Financing Your Business Notes

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1 Financial Management & Financing Your Business Notes
BMA – ENT – 8: Analyze financial issues relating to successful business ownership.

2 Essential Questions Why are budgets so important?
What financial records do small businesses need to keep? What is the foreign exchange rate and what does it mean? How does a small business owner know the financial status of their business? What are start-up costs and operating costs? Why is it important to create an effective business plan for investors?

3 The Purpose of the Financial Statement
Financial Plan – set of documents that outline the essential financial facts about the new venture. Purpose: Guides a company into the future Attracts investors; lenders & investors provide money to businesses with sound financial plans

4 An Effective Financial Plan
Identifying business assets Determining needed capital Describing start up and operating expenses Describing financial records management Forecasting future finances Describing growth financing

5 An Effective Financial Plan: Identifying Business Assets
A financial plan identifies the assets that need to be purchased for the business or project. Assets like cash, equipment, buildings, supplies, and land must be researched, analyzed, and compared before buying. The information obtained might show that buying used items instead of new ones, or renting them would be best.

6 An Effective Financial Plan: Determining needed capital
A financial plan describes and estimates the amount of money a business needs to start and operate. Capital - money supplied by investors, banks, or owners of a business. Start Up Capital – the money used to pay for the various assets and expenses of a new venture or business. Major sources of start up capital for entrepreneurs are personal resources, like friends & family, savings, loans, and investments.

7 An Effective Financial Plan: Describing Start up & Operating Expenses
A financial plan describes the expenses the business will incur during start up and operations and explains how a business will cover its expenses. Start up expenses often requires a large amount of cash to cover expenses like business assets, remodeling costs, security deposits, advertising, insurance, supplies, & permits. Operating expenses include payroll, rent, utility bills, delivery charges, and bank fees.

8 An Effective Financial Plan: Describing Financial Records Management
A financial plan describes who and how the business will document and report financial records. Some business owners maintain their own records using accounting software while hire professionals. A financial plan also describes any legal agreements that influence the way records are kept.

9 An Effective Financial Plan
Forecasting Future Finances Describing Growth Financing A financial plan forecasts finances to project future profitability. Financial forecast - an estimate of a business’s financial outlook for each of the next few years. The forecast should consider business condition in the future and should list conservative figures. For example, estimates for income should be low and estimates for expenses should be high. A financial plan explains how the business will acquire money to grow or expand, in order to remain competitive. Unexplained growth can be chaotic. Investors and lenders want to know that a business has thoughtfully developed strategies to finance controlled growth.

10 Budgets Budget – a plan specifying how money will be used or spent during a particular period. Budgeting helps business owners predict how much money the business will need and helps to control spending. There are three main types of budgets: Start up budget that plans income & expenses from the time of start up until a profit is made Cash budget that plans the actual money the business owner spends on a daily, weekly, or monthly basis. Operating budget that plans for the amount expected to be spent and earned over a given period of time, usually six months or a year.

11 Accounting for Business
Accounting – the systematic process of recording and reporting the financial position of a person or an organization. Purpose: Keeping track of the money that a company spends and receives To collect, record, report financial transactions that affect the operation of a business

12 Accounting for Business
An accountant maintains and reviews business records. An audit is a review of accounting records. Accounting is often referred to as the “language of business” because it is the way of communicating how well a business is doing and it has its own terminology. A business manager, an employee of a firm, or investor can use accounting records to gauge the health of the firm that they are working for or in which they want to invest.

13 Financial Claims in Accounting
Assets – property and other items of value owned by a business. They are either current or fixed. Current Assets – assets that are either used up or converted to cash during the normal cycle of the business or one year. Cash, supplies, merchandise, and accounts receivable are all current assets. Accounts Receivable – the total amount of money owed to a business. It represents money to be received in payments after good or services are sold on credit. Fixed Assets – items of value that will be held for more than one year. Equipment and buildings are fixed assets.

14 Financial Claims in Accounting
Equity – financial claims to all assets or the present value of an asset less all claims against it. Liabilities – creditors’ (creditor: the business or person selling the property or services a person/ business has agreed to pay later) claims to the assets of a business; they are the debts of the company. Liabilities include accounts payable. Accounts payable – represents the short-term liabilities that a business owes to creditors. Owner’s Equity – an owner’s claim to the assets of the business; owner’s capital

15 The Accounting Equation
Assets = Liabilities + Owner’s Equity Assets show the value of everything that the business owns or possesses. Liabilities are the right that credits have to the assets. Owner’s Equity shows the rights that the owner has to the assets. Financial Statements – documents that summarize the changes resulting from business transactions that occur during an accounting period. Financial statements provide information that business owners use to make financial decisions. The federal government requires corporations to release their financial records to the public. Income Statement (aka profit or loss statement) – a report of revenue, expenses, and net income or net less over an accounting period.

16 The Accounting Equation
Balance Sheet – a report of the balances in all assets, liability, and owner’s equity accounts at the end of an accounting period. Statement of Cash Flows – a financial report that shows incoming and outgoing money during an accounting period. Cash Flows – the money that is available to a business at any given time. Firms can run out of cash even when they make a profit most things are sold on credit. Lenders and investors expect business loan applicants to show a consistently positive cash flow.

17 Financing Your Business

18 Vocabulary Assets – what you own Liabilities – what you owe
Net worth (equity) - the difference between what you own (assets) and what you owe (liabilities) Personal financial statement – prepared to calculate your net worth Debt – dollars you have borrowed Equity – dollars you have invested in your business

19 VOCABULARY Debt-to-Equity Ratio – the relation between dollars you have borrowed (debt) and dollars you have invested in your business (equity). Equity capital – money invested in a business in return for a share in the profits of the business. Venture capitalist – individual or company that make a living investing in startup companies. Debt capital – money loaned to a business that must be repaid with interest Collateral – property that the borrower forfeits if s/he defaults on the loan

20 Assess Your Financial Needs- Start-up costs
Itemizing your startup costs is an important part of determining how much money you need and ensure you have accounted for all items and money needed Common startup items Equipment and supplies Furniture and fixtures Licensing and permits Insurance Legal and accounting fees Remodeling

21 Assess Your Financial Needs- Personal financial Statement
In order to determine if you have the resources you need to finance your business, begin by assessing your net worth. Total Assets – Total Liabilities = Net Worth (aka equity) When obtaining financing, you must consider your company’s debt to equity ratio which measures how much money a company can safely borrow over time. Total Liabilities / Total Equity = Debt to Equity Ratio A high ratio indicates a business is mostly financed through debt; a low ratio indicates a business is primarily financed through equity

22 Sources of Funding - Contributions
Personal Contributions: Many entrepreneurs use their personal savings to finance the start of their business which can, in turn, help them get a bank loan. Friends and Relatives: A good source of equity capital because they are familiar with your business idea and know whether you are trustworthy and a good risk taker. Venture Capitalists: Carefully research opportunities that they believe will make above average profits

23 Sources of Funding – Debt capital
Friends and Relatives: Be aware the loan may also come with advice and the business owner may lose a friend if s/he is unable to repay the loan. Commercial Bank Loans: Most businesses take out loans to repay with interest over a certain time period. Secured Loans: backed by collateral Unsecured Loans: not guaranteed by collateral

24 Types of Secure Loans Line of credit: An agreement by a bank to lend up to a certain amount of money. Most businesses establish lines of credit so that funds are readily available to help them make purchases. Long term loan: Loan repayable over a period longer than a year; generally made to help a business make improvements that will boost profits.

25 Types of secure loans Accounts receivable financing: Balances owed by customers who have charged merchandise and services at your business (accounts receivable) . As the account receivable are paid by customers, those payments are forwarded to the bank has loan repayment. Inventory financing: Occurs when banks use the inventory held by a business as collateral. Banks usually require the value of the inventory be at least double the amount of the loan. Banks are often reluctant because if the business defaults on the loan, the bank ends up with inventory it may have trouble selling.

26 Reasons A Bank May Not Lend Money
The business is a startup: New businesses have no record of repaying loans Lack of a solid business plan: A company with a poorly written or poorly conceived business plan will not be able to obtain financing from a bank Lack of adequate experience: Banks want to be sure the people setting up or running a business show they are familiar with the industry and have the management experience to operate their own business.

27 Other Sources of Loans Small Business Administration – SBA aids entrepreneurs most often by guaranteeing loans made by commercial banks which means the SBA will repay a certain percentage of the loan to the bank if the entrepreneur defaults. Small Business Investment Companies – SBICs are licensed by the SBA to make loans to and invest capital with entrepreneurs.

28 Other sources of loans Minority Enterprise Small Business Investment Companies – MESBICs are special kinds of SBICs that lend money to small businesses owned by members of ethnic minorities. Department of Housing and Urban Development – HUD provides grants to cities to help improve impoverished areas. Cities use these grants to make grants to make loans to private developer who must use the loans to finance projects in needy areas.

29 Other Sources of Loans The Economic Development Administration – The EDA partners with distressed communities throughout the US to foster job creation, collaboration, and innovation by lending money to businesses that operate in and benefit economically distressed parts of the country.

30 Other sources of loans State Governments – Almost all states have economic development agencies and finance authorities that make or guarantee loans to small businesses. Local and Municipal Governments – City, county, or municipal governments sometimes make loans of $10,000 or less to local businesses.

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