How To Prepare A Financial Feasibility Study (Guide)
What sets apart a successful startup from the failed ones is actually the ability to have the hindsight of the future. Before ever investing a dime in a project, an oriented entrepreneur takes the pain to undertake a financial feasibility study for viability confirmation.
This way, he is able to;
- Examine the market
- Ascertain the possible startup cost
- Make a projection of the cash flow and profit plan
- Determine the return on investment
- Forecast future performance
- Provide the management team with intelligent statistics
- Locate areas of growth
- And much more…
Luckily, you don’t have to scrub through the world wide web or wrap your head around a 200-pages book to learn how to prepare financial feasibility.
Steps to Prepare a Financial Feasibility Study
Step 1; Identify The Startup Cost
On the concept of financial feasibility study, the first step to take is to have a clear definition of what the cost of your startup project should be. And though you alone can figure that out completely, below are some of the typical startup costs you should consider;
- Utilities and advertising
- Supplies and office furniture
- Purchases for buildings and land
- Permits and licenses
- Cost of initial material purchases
- Employee wages
- Cost of equipment acquisition
- Accounting and legal fees for incorporation
- Cost of marketing research
- Insurance premiums
With an appropriate sum decided, you can move over to the next phase. However, be aware that the startup cost must be available as most of the above listed must be provided before you can proceed.
Step 2; Cash Flow And Profit Projection
According to studies, 30% of businesses fold up because the holders run out funds. But with a lacer-focus projection of the future cash flow and profit, you can prevent that. By definition, cash flow is a full-blown picture of the money that is expected to move out and into your project. So it makes sense that calculating all your expenses and revenue is a must. Being realistic with your cash flow projection, first analyze your account receivable box which includes; rebates, customer deposits and payments, government grants, and bank loans. After the analysis and calculation of that, you do the same for your account payable box which includes; inventory, taxes, overheads, payrolls, rents, payment to suppliers and vendors, and your personal compensation as the business owner.
Step 3; Manage Negative Cash Flow Upfront
When you study the patterns of your cash flow statement, you see that each of the two sides of your cash as previously mentioned (account receivable and account payable) is separated into three categories namely; financing, operation, and investing cash. If you notice that the three breakdowns of your account payable are higher than those of your account receivable then there’s the possibility of experiencing a negative cash flow in the future. And that is not good for you, right? The best thing you want to do is manage your negative cashflow upfront and make the balances so much that the amount of money moving out is less than the amount moving into your project. And to do that, take these easy steps;
- Find out where and how your cash flow is negative
- Create and negotiate new payment terms with customers and vendors
- Talk to lenders to make up for low sales
- Reduce operating expenses
- Find out how to increase sales
Step 4; Stretch Out The Need For Additional Funding
With your cash flow projection, sales, and profits, you are able to know where and how negative cash flow may pop up. Right? But that is not enough. Because in most cases sourcing additional funding from the outside to get ahead of negative cash flow may not be ideal. So, go ahead and stretch out the conditions that determine when additional funding will be needed. These conditions can only be decided by you and your team as they will remain fixed and unchanged through the age of your business.
Step 5; Conclude Your ROI (Return On Investment)
Notice that I didn’t dive into profits in step 2 even when it was highlighted to be discussed. Here’s where I have saved it up for. As the projected profit of your business determines the viability of it and the financial feasibility of the project, it makes sense to give it a special treatment. The overall idea here is to come into a conclusion about how far can your business attract equity investors. And what makes a potential equity investor tick?
- Short payback period; you need to project how long it takes the investment on your business to be recovered alongside profit. As expected, a project with a short payback period will attract more equity investors.
- Awesome NPV; aka Net Profit Value, the NPV is a statement of the difference between the present cost and the projected profit. If there’s a huge positive NPV after calculation, then your project is considered feasible enough to attract investors.
- Correct Internal Rate Of Return (IRR); simply put, the IRR is a balanced NPV. Whenever the projected cash outflow equals the present cash inflow, then you have great possibilities with your business. By implication, smart investors have their eyes for possibilities.
As a recap, below are the components to consider for your financial feasibility studies;
Components To Consider For A Ground-Solid Financial Feasibility
- Revenues; sales return and sales discount, interest, dividend, interest, and sales.
- Assets; both current and fixed assets
- Current and non-current liability; bank account overdraft, accounts payable, accrued expenses, bills payable, interest payable, and more…
- Company expenses; intermittent expenses, discretionary expenses, variable expenses, and fixed expenses.
- Cash flow; as previously discussed.
Great ideas may turn out to be the worst in the end. If you’ve just had a new business idea pop out of your head out of the blues, you don’t want to initiate it right off the bat. And that is where preparing a financial feasibility study comes in. A well-thought-out and accurately prepared financial feasibility save stories that touch. In this article, so far, I have given you the complete blueprint for a guided walk-through into creating your new business financial feasibility. I can only hope this helps you in your quest to starting and successfully running a profitable business.