4.0 Making Money
HOW TO PRESENT A BUSINESS PLAN >> Each section contains key Action Items located within the downloadable Action Guide >> Click to Download Action Guide.
We’ve discussed where your product or service will fit in the marketplace and we’ve also talked about how your product will be marketed and distributed. In this segment we’ll turn to the third part of your four-part presentation: making money. This section focuses on the economics of your business. There are countless cases of innovative products being developed that truly wow the marketplace. There are good plans in place to market and distribute the products. Unfortunately, the products flop and the business goes bust. Here’s the classic one: a new product is developed that will be sold for five dollars per unit. The cost to manufacture each unit is ten dollars, but the company will make it up on the volume! You’ve probably heard this old joke. Unfortunately, the punch line keeps punching entrepreneurs in the face. What’s important for you to know is that members of your audience, your potential investors, know this too! They will likely walk into your presentation being skeptical about the economics of your new business. In part three of your presentation, you’ve got to build a case to help overcome skepticism. Let’s get started with section three.
The first thing you’ll want to do is to convey to your audience the basic economics of your business. In pretty much every case, this comes down to the following:
1) You’ll sell your product or service for a certain price of X dollars
2) It will cost you Y dollars to make your product
3) You’ll have Z dollars of overhead
4) This means that your breakeven will occur when you sell Z/(X-Y) units at X dollars per unit
This is the base case I believe you need to establish. From there, you need to do a realistic projection of how long it will take you to achieve this breakeven and how much it will cost you to do so. The critical thing potential investors are looking to determine is how long it will take you to get to cash flow breakeven and how much you will cumulatively spend to get to that point. That, in effect, is how much capital your company will need to get on its feet. You need to develop a convincing case to your potential investors that you’ve got a pretty good handle on this. With that in mind, you’ll probably want to create some type of Powerpoint slide that conveys this basic information about your company.
Of course, potential investors also know that entrepreneurs seeking funding tend to underestimate how long it will take to get to breakeven and how much money it will take. Quite often, the entrepreneur is off by at least 50%, sometimes way, way more. Here’s a very likely scenario:
- The entrepreneur projects it will take 18 months to get to cash flow breakeven and the company will burn through $ 400,000 in capital to get there
- The actual time it takes is 27 months to get to cash flow breakeven and the company will burn through $ 800,000 in capital to get there.
That’s a pretty big difference! Why does this happen? It’s not that the entrepreneur is stupid or is trying to mislead the potential investors, though that has been known to happen. Instead, because it’s a new business, nobody really knows. However, the potential investor is probably wise to this possibility, so he or she will look to see signs that the entrepreneur has really thought this through. With that in mind, you’ll want to prepare carefully. On the other hand, keep the Kawasaki 10/20/30 rule in mind and remember that you’ve got limited time and space here.
To deal with the problem, I suggest you prepare two or three slides for part three and have a bunch of backup slides available to present if you’re asked questions. The principal two or three slides will provide the basic information about the economics of the business. As mentioned earlier, one should show the basic economics of the business, meaning how much it will cost to make each item, how much you’ll sell them for, and how much overhead you’ll have. The other PowerPoint slide should focus on your financial projections going forward. You should have some type of income statement that includes the following information:
- Projected revenues for the next five years
- Projected production expenses
- Projected cost of goods sold
- Overhead projections
- Projected net profit and loss
- Net cash flow for each year
- Projected cumulative net cash flow and cash burn
You want to be able to show when the company will start to become cash flow positive and what the cumulative net outflow will be.
As mentioned before, you’ll want to have some backup slides available. These should provide additional detail about the assumptions that underlie the two Powerpoint slides you include in your presentation. You’ll want to refer to these during a question and answer period. What are some of the items you might have available for backup, to present during a question and answer period? Here are some suggestions:
- Number of units you expect to sell each period
- Some detail behind your expenses
- A projected balance sheet and cash flow statement that will tie in to your income statement projection.
Any additional backup you might have in the business plan to support your two presentation slides. As I mentioned before, these additional materials are merely for backup. You may never get a specific question that will require you to refer to the backup material, but this way you can be prepared.
What are some of the common mistakes that entrepreneurs make when discussing the economics of the business? Surprisingly, one of them is not to present an analysis of how the business really makes money. As I mentioned before, many times entrepreneurs haven’t really thought through the economics of the business. Don’t make the same mistake! In any event, make sure you leave your audience with the feeling that you have thought about the fundamental economics of the business. At the same time, often when they do present material here, they overwhelm the audience with too many statistics and too much detail. I’ve seen many presentations where, for example, a projected income statement will be provided. It will include five or so years of projected data. The problem is that there is so much detail included; it would take a great deal of effort to understand it. The audience will then start to focus on the PowerPoint slide that the presenter is reviewing and almost literally stop listening to what the entrepreneur is saying. Not a good situation. Remember, always, that the PowerPoint slides are merely there to provide support for what the entrepreneur is saying, not the other way around.
Another common mistake is not to provide clear information about cash flows. The potential investor is really concerned about cash flow. He or she wants to get a good handle on how much cash will be burned before the company turns cash flow positive. Make sure to include this information.
Another big mistake is to be too optimistic. The classic symptom of optimism is what is referred to as “the hockey stick.” Invariably, entrepreneurs project revenues to begin slowly, and then project them to grow exponentially in years 3 to 5. If you plot the revenue data points on a graph, it looks suspiciously like something that should fit in the hands of Wayne Gretzky, the ice hockey legend. The only thing missing is a puck. Why is this a problem? Normally, because it’s unrealistic. Most companies just don’t grow that way. The other reason is more mundane and practical. What many people fail to realize is that when companies grow quickly, they burn through cash, even if they’re profitable. The reason for this is because as the company grows, more and more resources are tied up in working capital: the company needs more inventory, it has more uncollected receivables, and more prepaid expenses. All of the profit is tied up in inventory and receivables. An experienced executive once told me that more companies go out of business because they have too much business than not enough. At first, that sounds counterintuitive. After all, if the company is growing and making money, how could it run out of money, the definition of bankruptcy. The reason is because all of that profit is tied up in things like receivables and inventory. It really makes good sense.
So let’s go back to the hockey stick. When I, as an angel investor, see the proverbial hockey stick, I think the following:
1) First, the entrepreneur is unrealistic about sales growth
2) Second, even if the growth materializes, it’s going to suck up lots of cash
3) And third, all of that growth is going to tax the human resources of the company. If business really does grow quickly, who’s going to process the orders and keep things under control? If a business grows too quickly, product and service quality tends to suffer. After all, how many times have you had the following happen: you go to a new restaurant or other new business; you have a good experience … you’re pleased … and you tell your friends what a great time you’ve had. They have similar experiences. The business grows and grows. Pretty soon, you go back and it’s not the same place. What happened? The business just simply grew too quickly to keep up. In the extreme, it will grow so quickly that the company will end up going out of business.
Of these three problems, which is the prospective investor concerned about? Is it the unrealistic sales projection? Is it the fact that cash is sucked up? Is it the risk of bankruptcy? Frankly, I think it’s all three things. Which brings up another very important point.
When a prospective investor is evaluating a business plan, he or she is certainly looking at what’s in the business plan. But he or she is most likely doing something much more important than that. The much more important thing is evaluating the capability of the entrepreneur. Of course, the potential investor is looking carefully at what the business is about, but a much more important evaluation is the entrepreneur. Good entrepreneurs can often make a not so good business plan work, but it’s extremely rare to see a not so good entrepreneur make a good business plan work. As a result, much of the evaluation being done in this part of the plan is actually an assessment of the entrepreneur. The potential investor has the following questions going through his or her mind:
- Is the entrepreneur realistic about these projections? If not, can I believe what else I’m seeing here?
- Is the entrepreneur overly optimistic? Entrepreneurs are, by nature, optimistic, but investors need to be careful about unrealistically optimistic entrepreneurs.
- Does the entrepreneur grasp the significance of managing business growth?
- Has a seasoned financial person looked at these projections and checked them out, or has the entrepreneur done all of it himself? Potential investors don’t usually expect the entrepreneur to be a financial expert, but they do expect entrepreneurs to have seasoned financial people review the numbers and projections for reasonableness.
Many potential investors place a very heavy weight on their evaluation of the entrepreneur. It can make the difference between funding and no funding. This section is clearly the place where such evaluations can be made.
Related to this is the final key mistake I see entrepreneurs make: not building in any assumptions about what could go wrong. As mentioned before, entrepreneurs tend to be very optimistic people. They have to be, otherwise they wouldn’t start new businesses. But things can and always do go wrong. Those in the audience want to see evidence that the entrepreneur realizes that things can and will go wrong. They want to see that some effort has been made to plan for when things will go wrong. For example, what is being held in reserve to deal with problems? In this section, the entrepreneur needs to be able to demonstrate that he or she is planning for things to go wrong and has developed some form of contingency plan for it. That might mean that the company will grow a little more slowly than otherwise. It might mean that cash flow breakeven will take just a little longer. In the eyes of the prospective investor, that will be refreshing and will likely be viewed positively. What’s the lesson in all of this: simply to be prepared to show in your presentation that you know things will go wrong and that you are prepared to deal with them.
We’ve now talked about the marketplace problem that the new product or service will address. We’ve talked about marketing and distribution. We’ve discussed the economics of the business and how the company will make money. In our final section, we’ll talk about payday: how the company will staff itself, the milestones that will be set, and how all of this will result in a very positive payday for all involved.
As with previous sections, however, before you proceed:
- First, develop two or three PowerPoint slides for this portion of your presentation. As before, all you want to do is to plan the content of the slides. Focus on content, not appearance.
- One slide should show the basic economics of the business.
- The other slide should focus on your financial projections moving forward.
- Second, either prepare a detailed outline of what you want to say or, better yet, write out the text of this portion of the presentation. Do it double spaced on an 8 ½ X 11 page. You should generate about 3 pages of written text. Don’t worry about how well it fits together with the other portions.
You know the drill now, so time to get creative!
ACTION ITEMS: Complete the Action Items in your Action Guide.
Prepare two or three simple slides for this section of your presentation. As with the previous section, don’t worry about what the slides look like. Content, not appearance is what counts at this point.
- One slide should show the basic economics of the business.
- The other slide should focus on your financial projections moving forward.
Next, either prepare a detailed outline of what you’ll want to say for PART 3 or, better yet, write out your text.