Distinguished Professor Robert M. Donnelly
You would think that anyone starting a new business would have a business plan, and even more importantly anyone running a growing firm certainly would have one – right?
It’s a fact that most new businesses fail within the first twelve to eighteen months after starting. Why is that? Simply, due to a lack of developing a business plan before they begin. Even more basic is not developing a break-even analysis for the first year of operations. Growing firms also falter and fail due to not maintaining and updating their initial business plans for changing market conditions.
The majority of founders of new businesses are entrepreneurial techies of one kind or another. Entrepreneurs are visionaries convinced that they have an idea that will change the world for the better. Unfortunately, the great majority have never taken any business courses on accounting, marketing, or management.
The consequence of this is that they lack the fundamental knowledge of what it takes to start and manage a business and make a profit. Typical entrepreneurs are long on ideas, but notoriously short on cash. Most of the money that have invested along with monies they have convinced friends, relatives, and others, to invest is usually spent on getting ready to do business before there even are any customers.
There are two phases to any new business – getting ready to do business, and then opening the door. This is why developing a break-even analysis is so important. Even just developing a new App takes time and money. It takes time to develop and test the App, and then additional time and money to market the App.
Let’s take something as simple as opening a bagel shop or pizzeria. The first thing that has to be taken into consideration is the cost of getting ready to make bagels or pizzas: the rental of a space, purchase and installation of equipment, tables/chairs, utilities, phone/fax/internet, insurance, printing of menus, storefront signage, initial employees salaries and benefits, etc. – the start-up fixed costs.
Then, once you open the door for business, you incur variable costs for all the ingredients for making bagels or pizzas, packaging (bags/boxes), some advertising and promotions, other employees, taxes on sales, and various other expenses depending on where you open your business.
All of the fixed and variable costs have to be estimated, for the most part, before you sell one bagel or slice of pizza. They should be developed into a monthly budget so that you can measure what the actual costs are compared to what you budgeted.
Now comes the hard part: calculating what you have to sell – that’s how many bagels or pizzas every day and every week to cover the fixed and variable costs just to break-even. How many customers are needed to buy bagels or pizza does that equal? Are there enough customers in the area of your shop to achieve your estimates?
What about competitors – are there other bagel shops or pizzerias close by? What’s better about your bagels or pizzas? Why would customers choose yours over theirs? What kind of advertising and promotions do you have to develop to attract customers? Discounts, sales, coupons, etc.?
Once you calculate how many bagels or pizzas, at what prices, to cover your fixed and variable costs every day and every week, you now have a projected break-even. These sales estimates need to be added to your budget. Looking at all of these numbers before you start should shock you into reality.
The real question is – are these sales levels achievable?
As you start selling your bagels or pizzas and begin to incur the costs of operating your business, you need to record the actual sales and expenses and compare them to what you estimated you would sell and to your budgeted expenses – every day, week, and month. This comparison will quickly reveal whether or not you are going to break-even, make or lose money. More importantly, it will allow you to better manage your business.
The next step obviously is to determine if and when you will achieve a return on your investment (ROI), if at all!
As you can see from this simple explanation the need to develop a plan before you begin any business is not only an educational process for any entrepreneur, but essential to determine if investing your money and those who have given you their money will result in getting the monies back, and additionally generating a return on the investment?
It’s an inexpensive exercise that can be done on paper, or computer, these days that can save you from yourself. It’s a much needed lesson that all entrepreneurs should invest in before they invest their money, and the monies of others, into a start-up that on paper cannot justify generating a return on such an investment.
There are many software packages available today to guide any entrepreneur, and founders of growing firms, on how to develop a business plan.
There is an old business saying: “Nobody plans to fail…they just fail to plan”.
Professor Robert Donnelly is a professor at Rushmore University and thought-leader in executive branding.