Planning for the future, whether it’s with growth in mind or just staying the course, is central to being a business owner. Part of this planning effort is making financial projections of sales, expenses, and—if all goes well—profits.
Even if your business is a startup that has yet to open its doors, you can still make projections. Here’s how to prepare your business plan financial projections, so your company will thrive.
What are business plan financial projections?
Business plan financial projections are a company’s estimates, or forecasts, of its financial performance at some point in the future. For existing businesses, draw on historical data to detail how your company expects metrics like revenue, expenses, profit, and cash flow to change over time.
Companies can create financial projections for any span of time, but typically they’re for between one and five years. Many companies revisit and amend these projections at least annually.
Creating financial projections is an important part of building a business plan. That’s because realistic estimates help company leaders set business goals, execute financial decisions, manage cash flow, identify areas for operational improvement, seek funding from investors, and more.
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What are financial projections used for?
Financial forecasting serves as a useful tool for key stakeholders, both within and outside of the business. They often are used for:
Accurate financial projections can help a company establish growth targets and other goals. They’re also used to determine whether ideas like a new product line are financially feasible. Future financial estimates are helpful tools for business contingency planning, which involves considering the monetary impact of adverse events and worst-case scenarios. They also provide a benchmark: If revenue is falling short of projections, for example, the company may need changes to keep business operations on track.
Projections may reveal potential problems—say, unexpected operating expenses that exceed cash inflows. A negative cash flow projection may suggest the business needs to secure funding through outside investments or bank loans, increase sales, improve margins, or cut costs.
When potential investors consider putting their money into a venture, they want a return on that investment. Business projections are a key tool they will use to make that decision. The projections can figure in establishing the valuation of your business, equity stakes, plans for an exit, and more. Investors may also use your projections to ensure that the business is meeting goals and benchmarks.
Loans or lines of credit
Lenders rely on financial projections to determine whether to extend a business loan to your company. They’ll want to see historical financial data like cash flow statements, your balance sheet, and other financial statements—but they’ll also look very closely at your multi-year financial projections. Good candidates can receive higher loan amounts with lower interest rates or more flexible payment plans.
Lenders may also use the estimated value of company assets to determine the collateral to secure the loan. Like investors, lenders typically refer to your projections over time to monitor progress and financial health.
What information is included in financial projections for a business?
Before sitting down to create projections, you’ll need to collect some data. Owners of an existing business can leverage three financial statements they likely already have: a balance sheet, an annual income statement, and a cash flow statement.
A new business, however, won’t have this historical data. So market research is crucial: Review competitors’ pricing strategies, scour research reports and market analysis, and scrutinize any other publicly available data that can help inform your projections. Beginning with conservative estimates and simple calculations can help you get started, and you can always add to the projections over time.
One business’s financial projections may be more detailed than another’s, but the forecasts typically rely on and include the following:
True to its name, a cash flow statement shows the money coming into and going out of the business over time: cash outflows and inflows. Cash flows fall into three main categories:1. Operating activities. These are cash flows related to core business activities—inflows from sales of goods and services, and outflows for salary, rent, and taxes.
2. Investing activities. This is anything related to buying or selling long-term investments such as physical property (land or equipment), or non-physical property like patents or intellectual property, and any other long-term assets that aren’t cash equivalents. This includes stocks, bonds, and other securities sold after being held for at least a year.
3. Financing activities. This flow represents financial activity: bringing in money via a loan from investors or banks, paying interest on that debt, issuing or buying back shares, and making dividend payments.
Projected income statements, also known as projected profit and loss statements (P&Ls), forecast the company’s revenue and expenses for a given period.
Generally, this is a table with several line items for each category. Sales projections can include the sales forecast for each individual product or service (many companies break this down by month). Expenses are a similar setup: List your expected costs by category, including recurring expenses such as salaries and rent, as well as variable expenses for raw materials and transportation.
This exercise will also provide you with a net income projection, which is the difference between your revenue and expenses, including any taxes or interest payments. That number is a forecast of your profit or loss, hence why this document is often called a P&L.
A balance sheet shows a snapshot of your company’s financial position at a specific point in time. Three important elements are included as balance sheet items:
- Assets. Assets are any tangible item of value that the company currently has on hand or will in the future, like cash, inventory, equipment, and accounts receivable. Intangible assets include copyrights, trademarks, patents and other intellectual property.
- Liabilities. Liabilities are anything that the company owes, including taxes, wages, accounts payable, dividends, and unearned revenue, such as customer payments for goods you haven’t yet delivered.
- Shareholder equity. The shareholder equity figure is derived by subtracting total liabilities from total assets. It reflects how much money, or capital, the company would have left over if the business paid all its liabilities at once or liquidated (this figure can be a negative number if liabilities exceed assets). Equity in business is the amount of capital that the owners and any other shareholders have tied up in the company.
They’re called balance sheets because assets always equal liabilities plus shareholder equity.
5 steps for creating financial projections for your business
- Identify the purpose and timeframe for your projections
- Collect relevant historical financial data and market analysis
- Forecast expenses
- Forecast sales
- Build financial projections
The following five steps can help you break down the process of developing financial projections for your company:
1. Identify the purpose and timeframe for your projections
The details of your projections may vary depending on their purpose. Are they for internal planning, pitching investors, or monitoring performance over time? Setting the time frame—monthly, quarterly, annually, or multi-year—will also inform the rest of the steps.
2. Collect relevant historical financial data and market analysis
If available, gather historical financial statements, including balance sheets, cash flow statements, and annual income statements. New companies without this historical data may have to rely on market research, analyst reports, and industry benchmarks—all things that established companies also should use to support their assumptions.
3. Forecast expenses
Identify future spending based on direct costs of producing your goods and services (cost of goods sold, or COGS) as well as operating expenses, including any recurring and one-time costs. Factor in expected changes in expenses, because this can evolve based on business growth, time in the market, and the launch of new products.
4. Forecast sales
Project sales for each revenue stream, broken down by month. These projections may be based on historical data or market research, and they should account for anticipated or likely changes in market demand and pricing.
5. Build financial projections
Now that you have projected expenses and revenue, you can plug that information into Shopify’s cash flow calculator and cash flow statement template. This information can also be used to forecast your income statement. In turn, these steps inform your calculations on the balance sheet, on which you’ll also account for any assets and liabilities.
Business plan financial projections FAQ
What are the main components of a financial projection in a business plan?
Generally speaking, most financial forecasts include projections for income, balance sheet, and cash flow.
What’s the difference between financial projection and financial forecast?
These two terms are often used interchangeably. Depending on the context, a financial forecast may refer to a more formal and detailed document—one that might include analysis and context for several financial metrics in a more complex financial model.
Do I need accounting or planning software for financial projections?
Not necessarily. Depending on factors like the age and size of your business, you may be able to prepare financial projections using a simple spreadsheet program. Large complicated businesses, however, usually use accounting software and other types of advanced data-management systems.
What are some limitations of financial projections?
Projections are by nature based on human assumptions and, of course, humans can’t truly predict the future—even with the aid of computers and software programs. Financial projections are, at best, estimates based on the information available at the time—not ironclad guarantees of future performance.