This chapter outlines financing and budgeting considerations for small businesses including

sources of government funding and support as well as a summary of different types of financial statements.

Liabilities are any existing obligations that the business has to its creditors, which will ultimately

result in the outflow of assets or cash to another entity. Liabilities are classified into two categories:

Current liabilities are liabilities are due and payable within twelve months. These include accounts

payable, wages and rent.

Non-current liabilities are liabilities that are due and payable in a period over twelve months. An example

is long-term loans such as mortgage repayments.

Equity is what is left after deducting all the business' liabilities from its total assets. It is classified into

 two categories:

Capital contributions are made by business owners. It is important to note that creditor's claims to

your business' assets take legal precedence over business owners. Hence, business owners take the

ultimate risk when investing in the business.

Retained earnings are from the business' previous profitable periods of operation. Start-up businesses

don't have this during their first year of operation.

When starting a business, one of the first and most critical points to address is identifying all

the potential costs you will face. These include both the start-up costs and the ongoing costs.

Start-up costs are the initial outlays when setting up your business. These are one-off costs

that occur before your business begins trading. Typical start-up costs include shop fit-outs,

factory and office setup, equipment and machinery purchases, office supplies, business and

other registrations, licence and permit fees, along with any legal costs.

Ongoing costs are the recurring costs necessary to run and maintain the business. These costs

include items such as wages and on-costs, mortgage/rent, electricity expenses, insurance and

advertising costs.

It is also very important to consider including an allowance or "float" as working capital for the

early stages where you may not necessarily be generating enough revenue to cover all your costs.

Once you have obtained this information, you will be able to prepare a detailed budget that covers

the start-up costs, ongoing costs and initial working capital requirements so you can calculate

your overall financing requirements.

To assist you in determining your total finance requirements, you can download a start-up cost

calculator at finance.gov.au.

Debt Financing - usually in the form of a loan where the principal amount borrowed and interest

accumulated on the loan needs to be paid.

Friends and Relatives: people that you personally know invest into the business to lend

assistance.

Angel Investors: wealthy individuals who lend their personal finances to a business in return

for a share in its ownership.

Venture Capital: applications to professionally managed third parties such as a superannuation

fund who lend finance based on a good business plan.

Leasing: hiring out equipment for a regular fee for the duration of the lease term, with no outlay to

actually purchase equipment.

rates.

Bank Overdrafts: where you withdraw more than your account contains, with interest calculated

on your outstanding balance.

Government grants and assistance are available for those wanting to start a business and

those already in business. These grants are made available to encourage people who may

not have the funds to start their own business. They also help to stimulate economic growth

and business development around the country.

There is an emphasis on giving people wanting to start their own innovative business venture

an opportunity to do so. Funding and programs can come from federal, state and territory

levels of government and, in some instances, from local councils. There are grants available

for people from low socio-economic backgrounds, young people, indigenous Australians, innovative

businesses, etc.

grants and assistance and information relevant to each.

Local Government.

support initiatives available to businesses visit:

To maximise the chances of your financing application being successful it is important that

you carefully plan your application and get well prepared to answer questions about your

business and yourself.

Traditionally bankers look at the four criteria when assessing the risks associated with

lending you money:

Character - involves collecting personal details about who you are. It includes details about

your business skills, professionalism, you knowledge and experience within the industry, and your ability to manage a business.

Credit - involves collecting details about your credit history

Collateral - involves determining the assets that can be used as security for your loan.

Cash flow - Your ability to pay back the loan

A well prepared business plan and a collection of your personal information regarding these

criteria can significantly support your loan application as it demonstrates the amount of thought

you have put into your business.  To further contribute to the application of your loan you should have information about the following:

Finance Required: Determine how much you require to start the operation of your business. Consider in your calculation amounts for operating costs for the first few months of business operation, equipment purchases and business start-up.

Business Type: This entails describing your business and providing details about the market you will be selling too, associated market research, pricing structures, business goals as well as proposed products and services your business is going to sell.

History: When raising debt financing you need to ensure you address your past character (previous experience, skills, etc), credit history and any collateral you possess.

Usage of Finance: This involves justifying the amount of investment your business requires. To do this you should project budgets into the coming years, prepare cash flow statements and profit and loss statements as well as a list of current and intended creditors.

Finance Repayment: This involves clearly establishing how the investment will be repaid, in what timeframe and to what conditions. A list of personal assets that could be used as security for the loan should also be included.

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Q1.Assess the various sources of financing available for starting up your business.  Give answer

Profit and Loss Statement

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A Profit and Loss Statement (also known as an Income Statement or a Statement of Financial Performance), communicates the profitability of your business in a particular financial period. The profit and loss statement consists of three main elements:

Cost of Goods Sold: The total cost of inventory that is sold during the period.

Expenses: Effectively, this is all business outgoings incurred during the period, other than the distribution of income or assets to the owners of the business. Examples include sales and distribution expenses, business administration expenses, and financing expenses such as interest paid to business creditors.

In brief, the profit and loss statement is calculated as follows:

Net profit = (Revenue - COGS) + Gains - Expenses

If income exceeds expenses the business will have made a profit.  On the other hand, if expenses exceed income, the business would have suffered a loss for the period.

To assist you in developing your profit and loss statements, you can download the following sample templates:

12 month profit and loss statement

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Q1.Prepare a 12 month and 5 year profit and loss statement for your business. You can download sample templates here.  Give answer

Balance Sheet

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The balance sheet (also known as the Statement for Financial Position), provides you with the "net worth" of your business' assets and liabilities at a certain date. It is useful when evaluating the efficiency of your business in using its financial resources for operating purposes. To summarise how a balance sheet is calculated is the accounting equation:

Equity = Assets - Liabilities

The balance sheet consists of the following three main elements:

Assets: Assets are items that your business owns with commercial value.  For example, business equipment, bank accounts or inventory.

Accumulated Depreciation: is used as a contra-asset account to non-current assets.  It reflects the amount consumed of a non-current asset to date.

Liabilities: A liability is any existing obligation the business has to its creditors.

Assets and liabilities can be further classified into current and non-current. 

As a rule of thumb, current means those assets and liabilities held for less than 12 months, and non-current are those assets and liabilities held by the business for over a 12 month period.  However, this may change to suit your business's business cycle.

Equity is the leftover amount after deducting all the business' creditors' claims in the forms of liabilities to business assets from total assets. The business creditor's claims to your business' assets take legal precedence over business owners' claims.

To assist you in developing your balance sheets, you can download the following sample templates:

12 month balance sheet

5 year balance sheet

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Q1.Prepare a 12 month and 5 year balance sheet for your business. To ensure accuracy and consistency, the figures should be taken from your profit and loss statements. You can download sample templates here.  Give answer

Projected 5 Year Balance Sheet

For BUSINESS NAME

As at DATE

Current Assets

Cash at bank

Petty Cash

Inventory

Accounts Receivable

GST Outlays

Other current asset

Other current asset

Other current asset

Total Current Assets

Non-Current Assets

Equipment and Machinery

Land and Buildings

Leasehold

Investments

Goodwill

Trademark, Patents etc.

Other non-current asset

Other non-current asset

Other non-current asset

Total Non-Current Assets

Total Assets

Current Liabilities

Accounts Payable

Interest Payable

GST Collections

Superannuation

PAYG Withholding

Other current liability 

Other current liability 

Other current liability

Total Current Liabilities

Non-Current Liabilities

Mortgage payable

Loan from owner

Other non-current liability

Other non-current liability

Other non-current liability

Total Non-Current Liabilities

Total Liabilities

Net Assets

Equity

Business Owner, Capital

Retained Profits

Other Equity

Other Equity

Other Equity

Total Equity

What is Cash Flow?

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Cash flow is the measure of money flowing in and out of your business at any given time. In an ideal business cycle, you will always have more cash flowing in than flowing out. The reality is however, that most businesses have to produce or deliver goods/services to their customers while also paying their staff and suppliers before they get paid themselves.

This lag in payments in and payments out is often a major challenge for businesses and how well it is managed is critical to the business' immediate financial health and long term sustainability.

The task of managing cash flow is increased in complexity as the number of transactions and amounts of money involved grows, also resulting in greater impacts for the business if it is not managed well.

As a simple test, a sign of a healthy cash flow is always having cash available to pay all wages and bills on time. When businesses cannot do this, they can face a "cash crisis". In this situation they can have trouble accessing supplies and potentially disrupt their operations and ability to generate revenue.

Cash inflows are any receipts of cash to a business and can include:

• payment for goods or services from your customers

• receipt of a bank loan

• interest on savings and investments

• shareholder investments

• tax returns

Cash outflows are any cash outgoings and can include:

• purchase of stock, raw materials or equipment

• wages, rents and daily operating expenses

• loan repayments

• income tax, payroll tax and other taxes

• asset purchases.

Cash Flow Statement

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The statement of cash flows represents the cash inflows and outflows from the business' activities for the reporting period.  Cash inflows represents all the cash the business receives during the period and cash outflows are all the cash the business expends during the period.

The statement of cash flows communicates important information regarding the businesses:

• Ability to pay creditors on time

• Ability to receive cash from debtors on time

• Ability of the business to generate a positive cash flow (where cash inflows exceed cash outflows)

To establish the business's need for external financing.

When the closing balance figure is negative this means that there is a negative cash flow, with cash outflows exceeding the inflow of cash into the business.

To assist you in developing your cash flow statements, you can download the following sample templates:

12 month cash flow statement

5 year cash flow statement

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Financial Plan

Q1.Prepare a 12 month and 5 year cash flow statement for your business. To ensure accuracy and consistency, the figures should be taken from your profit and loss statements and balance sheets. You can download sample templates here.  Give answer

Cash Flow Forecasting

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Cash flow forecasting enables you to predict peaks and troughs in your cash balance. It uses estimated or real figures and shows the expected flow of cash in and out of your business as well as predicting the bank balance at the end of each month.

For business planning purposes, a cash flow forecast can be used for both short and long term forecasting.

Cash Flow Management

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You can effectively manage cash flow and the often resulting lag between payments in and payments out by introducing a cash flow management system. This does not have to be a complicated system but simply a list of steps as per the following that you always undertake to help minimise the lag period and avoid the potential for a cash crisis.

• ask your customers for shorter payment terms at the time of sales negotiations

• seek contract down payments and payment in advance for major material purchases

• get bills out quickly and chase debts promptly and firmly

• consider offering a small discount for prompt settlement of bills

• ask for extended credit terms with suppliers

• order less stock but more often

lease rather than buy equipment

review the profitability of your selling prices

Other steps you can implement to help you manage your long term cash flow include;

Keep cash flow forecasts up-to-date: ensure that your forecasts are up-to-date and accurate, and where possible, use actual figures (not budgeted). If you come across any changes in your forecast, always update it quickly.

Be aware of changing market & external conditions: this means you need to be conscious of any changes that may affect your business such as changes in demand, increased competition and new technologies, rising interest rates, economic downturns etc.

Avoid over-investing: while using extra cash to purchase assets for your business can improve productivity and competitiveness, it can be very useful to retain backup funds to cover any unexpected costs that may arise, such as repairs for breakdowns of equipment.

Manage inventory: purchasing supplies in bulk may increase savings, however, having excessive amounts of stock may tie up that can be better used elsewhere.

Credit management

While providing attractive credit terms can be popular with customers, it can also place pressure on your cash flow by extending the lag between payments in and payments out. You also need to manage the risk of missed debtor payments, aging debts and credit default as each of these can have severe implications for your cash flow.

A credit management system can incorporate a range of measures to minimise the overall amount of money a business has tied up with debtors. These can include well defined credit policies, preventative measures to minimise the risk of credit defaults, incentives for on-time or early payment and reasonable credit terms and conditions.

The following points can be incorporated into your credit policy and followed prior to providing credit:

• Conduct a credit check on new clients

• Ensure that your credit policy and conditions are clearly explained to your clients

• Ensure all agreements, including the conditions of credit, are made in writing and signed

• If practical, collect a deposit or pre-payment before supplying goods/services.  Alternatively you may collect progress payments to reduce the risk of bad debts.

• Implement a structured practice for following up overdue debts.  In the first instance, this may involve making a phone call, visiting your clients or sending a polite reminder letter.

You should remember that you are not obliged to provide credit to risky clients.

Debt Collection

If you still incur bad debts after having implemented credit management strategies, you may pursue payment through any of the following methods:

1. Consultation

2. Letter of demand

3. Legal proceedings

How to Write a Cash Flow Statement

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A cash flow statement is one of a business' main financial statements, along with the balance sheet and income statement. It focuses on the sources and uses of cash through operating, investing and financing activities. Activities that result in the receipt of cash are cash inflows, and activities that result from the spending of cash are cash outflows.

A cash flow statement is divided into three sections:

Cash flow from operating activities - cash inflows and outflows resulting from day-to-day business operations, including the collection of cash from sales and payment of expenses.

Cash flow from investing activities - result from the purchase or sale o

f the business's non-current assets, that is, assets owned for longer than 12 months.

Cash flow from financing activities - any financing activity that changes the size and composition of the business' long-term financing structure. This includes repayments of the principal on the business mortgage or capital contributions the business owner has made to the business.

You can prepare a Cash Flow Statement for your business by following the structure below:

(Your business name)

Statement of Cash Flows

For the year ended __ / __ / ____

Cash flow from operating activities

Receipts from customers

Payments to suppliers

Payments to employees

Interest payments

Interest received

Taxes paid

Net cash flow from operating activities

Cash flow from investing activities

Purchases of equipment

Purchases of property

Proceeds from sale of equipment

Proceeds from sale of property

Net cash flow from investing activities

Cash flow from financing activities

Proceeds from borrowings

Payments of borrowings (repayment of principal)

Investment into business

Drawings from business investment

Net cash flow from financing activities

Net increase (decrease) in cash held

Cash at beginning of period

Cash at end of period

To assist you in developing your cash flow statements, you can download the following sample templates:

12 month cash flow statement

5 year cash flow statement

Build your marketing plan

Financial Plan

Q1.Prepare a 12 month and 5 year cash flow statement for your business. To ensure accuracy and consistency, the figures should be taken from your profit and loss statements and balance sheets. You can download sample templates here.  Give answer

Projected 5 Year Statement of Cash Flows

For BUSINESS NAME

For the period ending DATE

Cash flow from operating activities

Receipts from customers

Payments to suppliers

Payments to employees

Interest payments

Interest received

Taxes paid

Other

Other

Net cash flow from operating activities

Cash flow from investing activities

Purchases of equipment

Purchases of property

Proceeds from sale of equipment

Proceeds from sale of property

Other

Other

Net cash flow from investing activities

Cash flow from financing activities

Proceeds from borrowings

Payments of borrowings (repayment of principal)

Investment into business

Drawings from business investment

Other

Other

Net cash flow from financing activities

Net increase (decrease) in cash held

Cash at beginning of period

Cash at end of period

Budgeting

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Budgets are used as a planning tool to plan and predict future income inflows and expenditures. 

They are also used to benchmark performance as a point of comparison between expected and

actual income and expenditure.

Budgets should also be used when applying for financing using various projection periods.  Budgets

are also used to represent what you plan to use the financing on in order to maximise your business'

success and generate a positive net income.

To budget you must first determine your business start-up costs and the business operating costs

for the initial years of operating. You should maintain some slack in your business budget to

accommodate any unforeseen spending such as when an emergency or a good opportunity arises.

It is important, however, not to be too optimistic when budgeting, be realistic particularly in respect

of business sales.

There are many types of budgets available to operate a business, including the three key budgets

outlined below:

Projected Income Statement: This employs the profit and loss statement where you budget for total

business sales and expenses for the projection period.

Projected Balance Sheet: This budget employs the balance sheet to project the business' assets it

needs to operate and the amount of liabilities the business expects to incur during the period, including creditor claims.