Entrepreneurship Summit IIT Kharagpur How to Write a Business Plan Prof Parameshwar P. Iyer

Business Plan

• What is it?

• Do you really need one?

• How long is it useful i.e. how quickly does it become obsolete?

• Who should prepare it?

• Which parts of it matter the most?

Business Plan Contents

1.

2.

3.

4.

5.

6.

7.

Executive Summary Industry, Company and its Products Market Research & Analysis Economics of the business Marketing Plan Design and Development Plans Manufacturing and Operations Plan 8.

9.

Management Team Overall Schedule 10. Critical Risks, Problems and Assumptions 11. The Financial Plan 12. Proposed Company Offering 13. Appendices

1. Executive Summary

• Description of Business Concept and the Business • Target Market and Projections • Competitive Advantages • Costs • Economics, Profitability, and Harvest Potential • The Team • The Offering

2. Industry, Company, Products or Services

• The Industry • Company and Concept • Products and/or Services • Entry and Growth Strategy

3. Market Reseach and Analysis

• Customers • Market Size and Trends • Competition and Competitive Edges • Estimated Market Share and Sales • Ongoing Market Evaluation

Perspectives on Marketing

• Understanding your offering the way a customer values it – not as an innovation, but as a package of innovative services; • Discerning which kinds of customers are likely to yield the first sale; and which will comprise the large, mainstream market; • Learning what markets are trying to tell you; and responding appropriately.

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Marketing Philosophy

• The marketing concept provides an orientation for conducting a business, a way of thinking, and a basic approach to business problems.

• Marketing is .. The whole business seen from the point of view of its final result, that is, from the customer’s point of view.

• The principal task of the marketing function… is not to be skillful in making the customer do what suits the interests of the business as to be skillful in conceiving and then making the business do what suits the interests of the customer 03 November 2007 Parameshwar P. Iyer Indian Institute of Science 8

Indicators of Customer and Marketing Orientation

• What information do you collect about the exact needs of your customers?

• Could you consider custom designing your products or services for smaller groups of customers? How?

• Are your employees specifically trained to represent your company to customers? How?

• How do you convert unsatisfied customers to satisfied customers? Do you have any strategy?

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Technology as Service

• Transition from

technology professional

to

technology entrepreneur

• Replace the

techno-centric

view of the world with one that is

customer-oriented

• Technology is

not

just a tangible object, but rather a

package of valuable services

• Customers have little use for products as objects; they have great use for

services these objects provide.

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Five steps for assessing market opportunities

• 1. Identify business environmental forces (economic, legal, regulatory, technological) • 2. Describe the industry and its outlook (type, size, market segments, marketing practices) • 3. Analyze key competitors (products, market positioning, market practices (channels, pricing, promotion, services), estimated market share • 4. Create a target market profile (levels, generic needs, product types, end-user focus, targeted customer profiles, implications for opportunity • 5. Set sales projections (formal/ intuitive approaches, comparison of results) 03 November 2007 Parameshwar P. Iyer Indian Institute of Science 12

Sources of information for Market Opportunity Analysis (MOA)

• 1. • 2.

Published sources

: Periodicals, newspapers, trade association reports, information service reports, government documents, company reports • 3. • 4.

Interviews with experts

consultants, sales persons

Personal observation

: Managers of suppliers, trade companies, associations, : Of customers, competitors, environmental influences

Primary marketing research

longitudinal panels, experiments : focus groups, concept tests, cross-sectional surveys, 03 November 2007 Parameshwar P. Iyer Indian Institute of Science 13

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4. Economics of the Business

• Gross and Operating Margins • Profit potential and Durability • Fixed, Variable and Semi-variable Costs • Months to breakeven • Months to reach positive cash flow

Financial Intelligence

• Basics of financial measurement: reading income statements, balance sheets, cash flow statements, etc.

• The art of finance: separating hard data from assumptions and estimates • The mechanics of analysis: calculating ratios, return on investment, and working capital • Cash and profit: knowing the difference between them, and why cash is suddenly becoming “hot” • Financial literacy and transparency; recognizing how they can boost performance 03 November 2007 Parameshwar P. Iyer Indian Institute of Science 16

5. Marketing Plan

• Overall Marketing Strategy • Pricing • Sales Tactics • Service and Warranty Policies • Advertising and Promotion • Distribution

Marketing Mix Variables

• • • •

1. Product

: Features, Quality, Packaging, Branding, Services, Guarantees, Assortment

2. Distribution

: Types of channels/ middlemen, Store/ distributor location, Storage, Transportation and Logistics, Service Levels

3. Price

: List price, Credit terms, Discounts, Selection and allowances, Flexibility

4. Promotion

: Promotion blend: Advertising, Media, Copy, Timing; Personal selling: Training, Motivation, Allocation; Sales promotion, Publicity 03 November 2007 Parameshwar P. Iyer Indian Institute of Science 18

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Four Steps for Pricing Products

• 1.

Establish Specific Objectives for Pricing Programs:

For example, • Increase sales or profit growth • Maximize short-run/ long-run profits • Discourage entrants • Speed exit of marginal competitors • Discourage price cutting • Stabilize market prices • Rapidly establish market position • Rapidly recover new product development costs 03 November 2007 Parameshwar P. Iyer Indian Institute of Science 22

Four Steps for Pricing Products

• •

2. Determine the extent of price flexibility:

Determined by costs, demand, competition, and legal and ethical considerations • Demand and competition set the • Range between

cost floor ceiling

for prices; determine “what the market will bear”.

and demand and competition

ceiling

defines the flexibility in pricing

Critical demand consideration is price

elasticity= % change sales/ % change in price

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Four Steps for Pricing Products

•

3. Develop price strategies

: guidelines and policies to effectively guide pricing decisions to match target markets: • Whether prices should vary day to day; • Overall price levels; • Price stability; • Pricing relative to the stages of the product/ service life cycle; and • Use of psychological pricing 03 November 2007 Parameshwar P. Iyer Indian Institute of Science 24

Four Steps for Pricing Products

•

4. Establish prices

: How are prices for specific products actually set?

• Sound approach to pricing must incorporate cost, competition, and demand factors • Costs establish the floor for a possible price range • • Cost plus pricing involves adding a % of the cost to set the price.

There could be many other strategies

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Alternative Pricing Strategies

• •

Markup Pricing

: Different from cost plus; markups are calculated as % of selling price (rather than cost) • Successful new ventures are founded on innovative, low-margin pricing (hoping that high volumes will provide good returns)

Break-even Pricing

: Determine the level of sales needed to cover all relevant fixed and variable costs (e.g. FC= Rs . 1,00,000; Unit VC=Rs.2; and Price= Rs.4, Break even= 50,000) 26 03 November 2007 Parameshwar P. Iyer Indian Institute of Science

Alternative Pricing Strategies

• •

Target Return Pricing

: Set the price as a desired % return over and above the break-even point (weakness is that it ignores market demand; yet ensures that prices exceed all costs, contribute to profit)

Going-rate Pricing

: Set prices equal to or a certain % above or below competitor’s prices. Depends on pricing objectives, structure of industry, relative production selling, and administrative costs 03 November 2007 Parameshwar P. Iyer Indian Institute of Science 27

Promotion Decisions

• • • Promotion is considerably more than just advertising. Can use four major tools:

1. Sales Promotion

: Communicating with audience through variety non-personal and non-media vehicles, e.g. free samples, gifts, coupons, etc.

2. Advertising

: Communicating with audience through non-personal paid media 03 November 2007 Parameshwar P. Iyer Indian Institute of Science 28

Promotion Decisions

• •

3. Publicity

: Communicating with audience by personal or non-personal media, that are not explicitly paid for delivering the messages; the audience is more likely to perceive the media rather than the business as the source of messages.

4. Personal selling

: Communicating directly with an audience through paid sales personnel 03 November 2007 Parameshwar P. Iyer Indian Institute of Science 29

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Criteria to Determine Roles of Promotion Tools

• Cost of reaching an audience • Ability to reach target audiences with little leakage to persons not included in them • Ability to deliver a complicated message • Ability to engage in interchanges with target audiences • Credibility 31 03 November 2007 Parameshwar P. Iyer Indian Institute of Science

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6. Design & Development Plans

• Development Status and Tasks • Difficulties and Risks • Product Improvement and New Products • Costs • Proprietary Issues

7. Manufacturing & Operations

• Operating Cycle • Geographical Location • Facilities and Improvements • Strategy and Plan • Regulatory and Legal Issues

8. Management Team

• Organization • Key Management Personnel • Management compensation and Ownership

9. Overall Schedule

• Typical Project Plan with customary artifacts – Timeline – Milestones – Responsibilities

10. Critical Risks, Problems, Assumptions

• Minor and major risk • Known problems and issues • Possible impact on plan • Implicit and explicit assumptions about any aspect of the venture • Dominant theme ---- Try to identity every conceivable source of unexpected and unpleasant surprises and change

11. Financial Plan

• Actual Income statements and Balance Sheets (Historical as well) • Pro-forma Income statements and Balance Sheets • Pro-forma Cash Flow Analysis • Breakeven Chart and Calculation • Cost Control • Highlights

What are Financial Projections

• Numbers that relate to the future are called financial projections or financial pro formas • Differ from accounting numbers, which are based on past performance • Good set of financial projections should include a pro forma income statement; a balance sheet; and a cash flow statement; along with detailed assumptions that underlie the projections 39 03 November 2007 Parameshwar P. Iyer Indian Institute of Science

Purpose of Financial Projections

• Show what a business will realize in: • Sales, Gross profits, Net profits • Net worth, Cash flows, and other measures associated with • Income statement, Balance sheet, Cash flow • How much money will my business need to maintain a positive cash flow?

• When exactly will I need this money?

• What kind of money (debt or equity or both)?

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Integrated Financial Projections

• Instead of a stand alone income statement, balance sheet, and cash flow statement; we need to link these different statements together • These statements change when their underlying assumptions or values change • All these numbers are related or tied to one another is why they are called Integrated Financial Statements 03 November 2007 Parameshwar P. Iyer Indian Institute of Science 41

Why Integrated Financials?

• You want to add several employees • Buy a piece of expensive equipment • Start a sales campaign • Likely financial impacts of your decisions; not only on your income statement, but also on your cash flows, balance sheet, and other financial measures, including breakevens • Financial projections must be tied together, or integrated, to have real utility 03 November 2007 Parameshwar P. Iyer Indian Institute of Science 42

How to Produce Integrated Financial Statements

• Build a sales forecast • Use the projected sales revenue as a basis for deriving a projected income statement • Calculate (estimate) all expense items as a percentage of total sales • Derive each balance sheet item, either by using its historical relationship to total assets; or use historical ratios (accounts receivable turnover period or inventory period) to derive projected balance sheet 03 November 2007 Parameshwar P. Iyer Indian Institute of Science 43

How to Produce Integrated Financial Statements

• Build a cash flow statement by actually tracking cash inflows and cash outflows over a

relevant time period

(one month, for most start ups) • Be explicit about your assumptions by building first an assumptions statement • Understand the general inter relationships between your assumptions and the sales revenue projection, the income or P&L projection, the balance sheet projection, and the cash flow projection • Understand the specific relationships between line items within and across the different statements: e.g retained earnings are derived from net income, and not vice versa 03 November 2007 Parameshwar P. Iyer Indian Institute of Science 44

Income Statement

• The Income Statement shows revenues, expenses, and profits for a period of time, such as a month, a quarter, or a year. It is also called Profit and Loss (P&L) Statement, Statement of Earnings, or Statement of Operations. The bottom line of the Income Statement is Net Profit, also known as Net Income or Net Earnings 45 03 November 2007 Parameshwar P. Iyer Indian Institute of Science

Operating Expenses

• Operating Expenses are the costs that are required to keep the business going day to day. They include Salaries, Benefits, Insurance Costs, etc. Operating Expenses are listed on the Income Statement, and are subtracted from Revenue to determine Profit. Operating Expenses show up on the Income Statement, and thus reduce Profit.

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Capital Expenditures

• A Capital Expenditure is the purchase of an item that is considered a long – term Investment, such as Computer Systems and Equipment. Most companies follow the rule that any purchase over a certain amount counts as a Capital Expenditure, while anything less is Operating Expense. Capital Expenditures show up on the Balance Sheet; only the

Depreciation

of a piece of capital equipment appears on the Income Statement 03 November 2007 Parameshwar P. Iyer Indian Institute of Science 47

Accruals

• An Accrual is the portion of a given revenue or expense item that is recorded in a particular time span. • Product development costs, for instance, are likely to be spread out over several accounting periods, and so a portion of the total cost will be accrued each month.

• The purpose of accruals is to match revenues to costs in a given time period as accurately as possible.

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Allocations

• Allocations are apportionments of costs to different Departments or activities within a Company • For instance, Overhead Costs, such as the CEO’s salary, are often allocated to the Company’s operating units.

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Depreciation

• Depreciation is the method accountants use to allocate the cost of equipment and other assets, to the total cost of products and services, as shown on the Income Statement.

• It is based on the same idea as accruals: we want to match as closely as possible, the costs of our products and services, with what was sold.

• Most capital expenditures are depreciated (land is an example of one that isn’t). Accountants attempt to spread the cost of the expenditure over the useful life of the item.

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Goodwill

• Goodwill comes into play when one Company acquires another Company. It is the difference between the Net Assets acquired (the fair market value of the assets less the accumulated liabilities), and the amount of money the acquiring Company pays for them. It reflects all the value that is not reflected in the acquired Company’s tangible assets – for example, its name, reputation, customer lists, etc 03 November 2007 Parameshwar P. Iyer Indian Institute of Science 51

Balance Sheet

• The Balance Sheet reflects the Assets, Liabilities, and Owners’ Equity at a point of time. In other words, it shows, on a specific day, what the Company owned, what it owed, and how much it was worth. The Balance Sheet is called such, because it balances – Assets must

always

equal Liabilities plus Owners’ Equity. A financially savvy manager knows that all the financial statements ultimately flow to the Balance Sheet.

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Cash

• Cash, as presented on the balance sheet, means the money a company has in the bank, plus anything else, such as stocks and bonds, that can be readily turned into cash. When companies talk about cash, it really is the cold, hard stuff.

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The Matching Principle

• The matching principle is a fundamental accounting rule for preparing an income statement. It simply states, “Match the sale with its associated costs to determine profits in a given period of time usually a month, a quarter, or a year”. In other words, one of the accountants’ primary jobs is to figure out and properly record all the costs incurred in generating sales 03 November 2007 Parameshwar P. Iyer Indian Institute of Science 54

Sales or revenue

• Sales or revenue is the Rupee value of all the products or services a company provided to its customers during a given period of time.

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Earnings per Share (EPS)

• Earnings per Share (EPS) is a company’s net profit divided by the number of shares outstanding. It is one of the numbers that Dalal Street (or Wall Street) watches most closely; it has “expectations” for many companies’ EPS, and if the expectations are not met, the share price is likely to drop.

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Cost of Goods Sold (COGS) and Cost of Services (COS)

• Cost of Goods Sold (COGS) or Cost of Services (COS) is one category of expenses. It involves all the costs directly involved in producing a product, or in delivering a service. 03 November 2007 Parameshwar P. Iyer Indian Institute of Science 57

Above the Line, Below the Line

• The “line” generally refers to gross profit. Above that line on the income statement, typically, are Sales and COGS or COS. • Below the line are Operating Expenses, Interest, and Taxes.

• Sales – COGS/ COS = Gross Profit • Gross Profit – Operating Expenses = Operating Profit • Operating Profit – I,T = Net Profit 03 November 2007 Parameshwar P. Iyer Indian Institute of Science 58

Operating Expenses

• Operating Expenses are the other major category of expenses. The category includes costs that are not directly related to making the product, or to delivering a service.

• Typical Operating Expenses would include Sales, General and Administrative Expenses (SG&A), and Depreciation (for tangible assets) or Amortization (for intangible assets) 03 November 2007 Parameshwar P. Iyer Indian Institute of Science 59

Non – cash Expense

• A non – cash expense is one that is charged to a period on the Income Statement, but is not actually paid out in cash. An example is Depreciation: accountants deduct a certain amount each month for Depreciation of equipment, but the company is not obliged to pay out that amount, because the equipment was acquired in a previous period. 03 November 2007 Parameshwar P. Iyer Indian Institute of Science 60

Profit

• Profit is the amount left over after expenses are subtracted from revenue. There are three types of profit: gross profit, operating profit, and net profit.

• Each one is determined by subtracting certain categories of expenses from revenue.

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Gross Profit

• Gross Profit is Sales minus Cost of Goods Sold (COGS) or Cost of Services (COS).

• It is what is left over after a company has paid the direct costs incurred in making the product, or in delivering the service.

• Gross Profits must be sufficient to cover a business’s Operating Expenses, Taxes, Financing Costs, and Net Profit.

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Operating Profit, or EBIT

• Operating Profit, or EBIT, is Gross Profit minus Operating Expenses, which include SG&A, Depreciation, and Amortization • In other words, it showa the Profit made from running the business 03 November 2007 Parameshwar P. Iyer Indian Institute of Science 63

Net Profit

• Net Profit is the

bottom line

of the Income Statement. It shows what is left after

all

costs and expenses are subtracted from Revenue.

• It is equal to Operating Profit minus Interest Expenses, Taxes, One – time Charges, and any other costs not included in Operating Profit.

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Sample Income Statement (in Rs. Lakhs) year ended 31 March 2007 • • • • • • • • • • • • •

Sales 86.89

Cost of Goods Sold 67.56

---------- Gross Profit 19.33

Selling General Admin (SG&A)10.61

Depreciation 2.39

Other Income (0.19) ------------ Operating Profit, or EBIT 6.52

Interest Expense 1.91

Taxes 2.13

------------ Net Profit 2.48

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12. Proposed Company Offering

• Desired Financing • Offering • Capitalization • Use of Funds • Investor’s Return

13. Appendices

• Typically a lot of the supporting information and data tends to be presented in Appendices – Detailed Financial Information – Resumes – Market Data – Press Releases and Interviews – News Clippings

Do Not…

• Have unnamed people in the plan • Make unsubstantiated statements • Use too much technical jargon • Spend resources on aesthetics/packaging • Swap execution time for writing time ( an ounce of visible implementation is worth several pounds of theoretical planning ) • Bank on deal until money is in the bank

Internet Sources

• • • • • • www.bplans.com

www.us.deloitte.com/growth www.web.mit.edu/entforum/ www.businessplans.org

www.sba.gov/starting/indexbusplans.html

www.inc.com/writing-a-business-plan/

Conclusions

• A Business Plan is the Road Map for a successful business • Need to clearly outline the Value Creation, Value Proposition, and Business Model • Design, Development, Manufacturing, etc.

• Market Research, Analysis, and Marketing • Economics of the Business, Financials, etc • Critical Risks, Problems, Assumptions • Management Team, Industry, Company, Offering • Data Sheets, Appendices, Footnotes 70 03 November 2007 Parameshwar P. Iyer Indian Institute of Science