We have a saying in KCARD when we are looking at financial statements or projections that come into our shop – “Did you find the dead body in them?”
This is our little way of referring to the situation where we see a financial statement and instantly know that something is not quite right. A lot of time it is not on purpose. Instead, it is often where someone makes a mistake as they are developing the statement that can lead to the financial reports being inaccurate and the business owner not truly understanding the past or future financial performance and health of their business.
Below we have summarized common issues we see in financial statements or projections:
Start Up: When building or starting a business, it is easy to go off square footage ballpark estimates. Sure, you can rough out some numbers assuming it takes $100/square foot for construction, but you need to pull in estimates from actual contractors to true it up. Another piece we see often neglected or forgotten is that no contingency funds are set aside for a construction project. During construction projects little (or big) things happen, and you need to try to plan for those. We typically put in a contingency amount of 10% (or more depending on project) for all the things that happen during construction. Finally, when you start a business you will need to hire, pay utilities, or purchase product to get your final product out the door. All these costs add up to your working capital. Money does not start rolling in once you plug in all the equipment, so you better have some set aside to pay expenses before you have revenue.
Growth: When you are anticipating huge increases in your business, the increase in your input costs needs to be the same. Without product, you don’t have anything to sell, right? That’s a red flag. Another scenario of that is if you are anticipating a high growth rate without indicating an increase in land in production or breeding animals (or whatever is your production limitation), that does not make sense. Finally, we’ve all heard the adage of “it takes money to make money”. Marketing and transportation costs (to and from processor or markets) are often large costs that are forgotten. We would all like to be able to zap product and get it in the hands of the consumer like a genie or a Star Trek transporter, but that’s not the way product moves. There is a cost. Always.
Too Pretty: Your assumptions need to have roots. In other words, you need to show how numbers are derived. If you ask a question about the revenue number and someone cannot point to how it was developed, that’s a problem. Typically, if you develop projections from numbers like your expected price and volume, you get ugly numbers, not ones with lots of zeroes. When we see lots of round numbers, it is a problem and the roots often aren’t there.
100% Grant Funded: Grants are great and can help expand your business or project. However, when it comes to funding your business you will need other capital. It is highly unlikely for a private business to receive 100% grants to start their business.
A + B does not equal C: Financial statements are supposed to be connected: Your net income on your profit/loss statement shows up as the same number on your balance sheet, for instance. Payments on the loans on your balance sheet had better show up on your cash flow. If the profit/loss statement is showing a positive net income, but the cash balance on the balance sheet is negative or not improving, there could be errors in the spreadsheet or with your calculations. You also need to show depreciation as an expense on your income statement. This can make your net income look worse than what you wanted, but when you leave it off, you are cheating yourself out of realistic financials.
Not everyone is a numbers person and we have seen where business owners rely upon a family member or another party to develop their financials for their business. This is not a bad option if the business owner is involved in the process. As a business owner, you need to “own” your numbers. You need to be able to explain how you got to them forwards and backwards. If you cannot explain the numbers, it is a major red flag. These mistakes can happen to anyone, but dead bodies like these have a way of resurfacing in a way that makes more problems in the future.
Contact KCARD at 859-550-3972 or via email at kcard@kcard.info to review existing financial statement or projections or if you would like to work with one of our business development specialists to begin developing financial statements or projections for your business.