The first thing I usually hear when a new client comes on board, especially a new client in the start-up phase, is “I want to work on my cash flow statement”. And while I am happy to help create one, there is an inherent road block in a start-up focusing on cash flow – you have no idea where your sales are coming from!
For some reason cash flow seems to be the creditor favourite for lending. In lieu of historical financial statements for start-ups, they’ll often ask for cash flow projections and future sales growth etc. before approving any lending applications. And then you are held accountable to meet those projections because that was the basis of the loan.
A cash flow projection is supposed to help you manage when money is coming in and when money is going out; but this assumes that you have a consistent stream of money in/out to be able to make this work! If you’re a start-up then you don’t have a steady sales stream yet. Not to mention, you’re probably still experimenting with your costs so you’re expenses are fluctuating as you play around with things. This means you can project a sales of $10,000 and expenses of $8000 for September… but you don’t have enough historical data to really see if this is a reasonable projection. And now you’re being held accountable to something that maybe should not have been set in the first place.
Instead, a break-even analysis is a much more useful tool for entrepreneurs to use in the start-up phase. What this analysis shows is how much sales you would need to just cover your fixed costs. This, for most entrepreneurs, is the goal in the beginning – just to break even and maybe show a little profit. To calculate this you take your average sales price divided by your fixed costs. This will give you the number of sales you need to cover your costs.
This, for a start-up, provides a more reasonable goal to work towards. Once you’re consistently covering your costs you can start focusing on bigger sales targets. When you have consistent monthly revenues and expenses, then a cash flow projection can be made!
“Behind Every Great Business is a Great Accountant”
For more information on how to keep your business tax efficient, or to get a consultation on whether you are making all the right tax choices for your business, contact Dharna CPA. www.dharnacpa.ca. Info@dharnacpa.ca