Volume Number: 20 (2004)
Issue Number: 3
Column Tag: Programming
Starting a Business
by Chris Kilbourn
My first business plan was laughable.
There were ridiculous assumptions, glaring omissions and there were more marketing fluff words in it than actual substance. Even though I cringe when I read it today, it still put me significantly ahead of the game when talking to bankers, potential investors, and clients. Why? Because I actually had a plan to show them, flaws and all.
Like a college degree, a business plan neither guarantees future success, nor proves that you have mastered a given subject, but it does show that you put in the time to think about your business, and how it will operate. The time spent writing your plan will force you to think about, and explore all the facets of your business. It will help you to uncover hidden assumptions, crystallize how you will actually make money, and assist you in developing realistic goals for your business.
I am still amazed at the number of entrepreneurs I meet who feel that writing a business plan is not a good use of their time. Their excuses range the gamut from claiming to not have enough time to write it to blithely claiming that they do not need one because the business is doing well without one.
If you ever expect to open a line of credit with a bank or vendor, raise money from private individuals or venture capitalists, or recruit senior management for your company, you will need a business plan. Without a business plan, you simply will not be taken seriously by those people, and you will be wasting everyone's time, including your own.
What Should Be In Your Business Plan
A business plan should answer what I like to call the Golden Quad:
- What will the business do?
- Where will your customers come from, and how will you sell to them?
- How will the company make money?
- Who will run the business, and why are they qualified to do so?
I call them the Golden Quad because without answering them in your plan, you will likely never strike gold in your business.
As you work through writing your plan, continually ask yourself if you are answering these four questions clearly, and directly. For every sentence that is in the plan, if it does not speak to or support the Golden Quad, do not include it.
I have read plans with insightful analysis of markets, and wonderful descriptions of cutting-edge technology, and that were very well-written, but didn't tell me a damn thing about the company's product or service, who their customers were, how they were going to make money, and why the managers were qualified to lead the company. In short, they were a great read, but useless as plans.
I would be remiss unless I emphasized the importance of the financial component of the business plan. Your plan should include projected cash flow and income (profit and loss,) statements, a balance sheet, a listing of all capital (expensive) equipment, and a list of the assumptions that went into the projected financial data.
To a person, the bankers and investors I have met looked at my financial data before reading the plan, or executive summary. If your financial numbers do not add up, are unclear, or your assumptions are incorrect, your plan will not be read. Period.
The good news is that there are many free tools for business financial planning available. The Small Business Administration provides a wealth of information in this area on their web site, for example. If numbers are not your strong suit, you will want to hire or contract for some help in this area.
Who Are You Writing The Plan For?
Your business plan is being written for a variety of audiences. First and foremost, you write it for yourself. You may have spent months or even years thinking about starting your business, but I'd be willing to bet you spent most of that time thinking about what you were going to do, not how much floor space, and equipment each employee would require.
Your business plan will become your guide, your to-do list, and your touchstone when you lose your way. With the myriad details that must be attended to in any business, re-reading my business plan on a periodic basis became a ritual for me. It was the compass that let me know if I was still heading in the right direction.
Secondly, you write your business plan for your employees. Post dot-com crash, savvy interviewees asked to see our business plan, which we gladly furnished to them, sans financial information. A clearly written, and shared business plan shows potential, and existing employees that management has thought through the business, and is willing to be held accountable to it.
By sharing your plan with your employees, you invest them in the vision of where the business is going. If you hide it from them, which seems to be an unfortunate practice at far too many businesses, management directives tend to be questioned more vigorously. Think about it: if you were following someone into unknown territory, would you be more or less inclined to question their judgment and authority if they shared with you up front where they were planning to go? As an added bonus, you gain the benefit of employee input into the plan.
You write your business plan for your bankers and vendors. Bankers and vendors who extend credit must perform a risk assessment before deciding to grant you credit. Providing them your business plan with a sound financial model in it helps them to understand the financial risk they will be taking with you. From personal experience I can tell you that no plan, or one that has unclear financial information in it, will prevent you from receiving credit which can significantly inhibit the growth of your business.
Finally, you write your plan for your investors. Unless you are a seasoned entrepreneur with several business successes under your belt, the only people you will be able to raise money from without a plan will be your friends and family. The business plan also helps you create your 'elevator pitch.' This is a 3- to 5-minute verbal pitch that answers the Golden Quad, and hopefully hooks a potential investor to learn more about your company.
We will cover fundraising in a future column, but a truism in fundraising is that people invest in people not plans, but without a plan, an investor will not invest with a person. Period. No plan = no investment money.
How Long Should The Plan Be?
You should create three versions of your business plan, and each version will vary in length, and content depending upon whom the target audience is.
The first version you create should be a detailed full plan that should be as long as it needs to be to answer the Golden Quad, but keep it under 20 pages with supporting materials. Anything longer than that and you risk reader fatigue. If you feel that including a large amount of supporting material is necessary, consider creating a separate document that includes them. Bear in mind that unless you are submitting your plan to a venture capital firm, large amounts of supplemental, and supporting information are routinely ignored.
This detailed plan is for you, for your employees, for investors who express serious interest in investing and for bankers or vendors extending you significant credit.
The second version should be an executive summary no more than 4 pages in length, not counting supporting financial documents. This should be a succinct, boiled-down version of your full plan that provides enough information to clearly answer the Golden Quad.
The executive summary plan is an overview version for potential investors, potential employees and vendors who you plan to work with on a regular basis but for whom the full plan would be overkill.
The third version should be a bullet-pointed slide version of the executive summary. For this third version, select the talking points of the executive summary and then develop a narrative to cover each point.
This slide version is great for sales presentations, and investor pitches. The flexibility of doing it as digital content is that you can tailor your message to each group or individual you present it to.
Sharing Your Plan
As described earlier, you should be sharing your business plan with a variety of people. When it comes to sharing it, exercise some common sense when doing so.
This means that you should have versions that include and omit financial data, proprietary information and competitive analyses. You should also include a version and tracking number on each copy that you distribute and then keep a list of who received which. Each page should be marked, "Copyright [Firm Name.] Proprietary and Confidential - Do Not Distribute," and include the tracking and version number.
Many entrepreneurs are reluctant to share their plans out of a fear that their information could end up in a competitor's hands. In general, this is an overblown fear. Unless you are the target of directed corporate espionage, most people will flip through your plan, and then shove it in a drawer, never to be seen again.
For anyone who is not a potential investor however, you should protect your rights by having them sign a non-disclosure agreement prior to giving them a plan. In the event that you discover that the information has been shared with parties that should not be privy to your plan, the tracking number of the plan then provides you with strong legal recourse to sue for damages. Consult a lawyer for the finer points of this issue. There have been cases where disclosure of business-plan data resulted in financial settlements that made pursuing the business idea not worth the financial risk!
When it comes to investors you just have to go out on a limb and trust that they will not unduly share your plan. I will cover this process in more detail in a later column, but suffice to say that investors do share plans with others, but it is only in extremely rare cases that this behavior will cause you material harm. In most cases, this is a good thing.
Research and Knowledge - Your Key to a Successful Plan
You will need to do research in order to write your business plan. The depth and quality of your research and how much you learn will be reflected clearly in your plan. The more research that you perform, the easier it will be to write your plan.
I spent close to five months doing research before writing my first business plan. This time was spent reading about as many business failures and successes as I could find, performing market research and financial planning massaging spreadsheets.
Being fully in the camp that forewarned is forearmed, I strongly encourage you study business failures, small and large. Santayana's warning, "Those who cannot remember the past are condemned to repeat it," comes strongly into play here. Businesses tend to fail and succeed for very predictable, well-documented reasons. You should learn what they are before you ever take a dollar from a customer or write your plan. Knowing what the pitfalls and accelerators are will help guide you in crafting your plan.
Questions that you will simply have to answer in your research for your business plan are: How large is your target market in potential number of customers and in dollar value? Where are these customers located and how will you be best be able to sell to them? What equipment will you need? How many employees will you need? Who is your competition? What are the barriers to entry for competitors in your market? Is what you are doing novel and unique, or is it well-known? If it is well-known, how will you make money in an already established market?
There are many other questions that will need to be asked and answered, but they will vary by the industry you are competing in. If the thought of a research project terrifies you, and I've met more than a few people for whom this is the case, there are a wide variety of sources and support that can help you with the process.
The best, and in my opinion, first place to start when you begin your business plan is your local Small Business Administration office or their web site at http://www.sba.gov. The SBA will be able to provide you with business plan samples, checklists, basic market research, networking, and their most valuable resource, SCORE counselors.
The SCORE counselors are retired and working executives, and each of them have been in your shoes before in trying to pull a business plan together. They will sit down with you, and review your plan if you have one, or help guide you in compiling your own. SCORE counselors will provide you with one-on-one, individualized feedback while sharing their knowledge, and experience with you. You should avail yourself of their services.
Another underutilized avenue of research, and knowledge is your local university's business school and associated library. There are legions of MBA students looking for real-world experience in business via internships, and special research projects. In many cases, these services can be had for little to no cost. Students get material for projects, you get data for your plan, and everyone's happy. Business school libraries also contain innumerable business case studies, books on business planning, and stories of business successes and failures.
Not to be overlooked is the Internet. When I was pulling together my business plan in 1994, Internet business resources were few and far between. Today, there is a vast amount of information published by the SBA, business schools, and entrepreneurs. A quick spin through a search engine will present you with a wealth of useful, (and not so useful,) information. The caveat here is to second-source facts and figures found on the Internet with known offline information sources.
Format of the Plan
So how should your plan be formatted? It should have the following sections:
This is the 'nut' of what your company does, and how you plan to make money at it. This is your business plan introduction, and it is the bare-bones description of why you are in business, and the general view of the financial opportunity that you are pursuing.
This is a more detailed look at the company. You should describe the company's business structure, provide a general overview of current operations including employee and customer counts, where you are located, the current level of business development, (seed, start-up, established firm, etc.,), and a brief history to date.
This part strikes right at the first question of the Golden Quad - what will the business do? Here you should detail how large your potential market is in number of customers, and revenue. The best way to think about structuring this section is to explain what problem you are solving for your customers. Detail the problem, then explain how your company will solve that problem for them, and make money from providing the solution.
Here is where most of the research you have done will shine through. Demonstrate that you know that your overall market is segmented, and detail which segments you will go after, and why you are going after them as opposed to others. Describe historical trends, and market blips, good and bad, and how you plan to ride them to success.
Describe and detail how you will execute your sales and marketing strategy for the customers you identified in the Business Opportunity section, while tying it into the Market Analysis section. This is all about how you will attack your market, take it over, and make money. You will need to explain here the core financial model of the company. Is it direct sales? A software upgrade revenue model? A monthly annuity for services rendered? Lay it all out here.
Every business has competition, whether they think they do or not. Convince your readers that you understand your competition, that you can penetrate their barriers to entry into their markets, and then erect your own barriers to keep them out of yours. Your strategy should be clearly reflected in how you manage your competition.
These should be single-paragraph resumes with an emphasis on career achievements that are applicable to the current business endeavor. Your goal here is to convince the reader that your team has the experience, knowledge, and skills to execute the plan successfully.
Summary Financial Data and Projections
Welcome to the land of spreadsheets and numbers. This section should include a 3-year look at actual, and projected cash flow and profit and loss. Income and costs should be broadly grouped for the executive summary version of your plan, and be detailed in the full plan. A balance sheet should also be included if there are already company assets.
Additionally, a list of all the financial assumptions that went into your projections must be included. Good examples of assumptions are rates of inflation, interest, and costs for things like equipment and employees. The more detailed your financial plans, the easier it will be for you, your bankers, and your investors to understand the core financial model of your company; and to adjust it as you move forward.
As an example, digital.forest's financial model is a 2MB, 10-tab spreadsheet where if you adjust the square footage for employee offices, it will automatically update and adjust costs for office space and fixtures and update cash flow and income projections. There are similar 'knobs and sliders' for service costs and revenue that are linked back to the financial reports.
This is a section that should only be distributed with the full business plan, and included when you are fundraising. The subscription agreement lays out the terms and conditions for investors. The subscription agreement should be provided by your legal team. Don't worry about this section right now unless you are actively soliciting large sums from investors.
As a final word on form, print it on a laser printer, not an inkjet, have it bound with a clear plastic cover and have a cover page with your company name on it with your logo, preferably in color. While the content is what really matters, your plan is more likely to be favorably received if its presentation looks professional.
Surprisingly, one of the most useful things about a business plan that is rarely mentioned is the reality check it provides for your business. Working through the financial, and operational assumptions for the business in your plan will highlight absurdities, and processes that just won't work.
I still clearly recall a digital.forest planning meeting to review our financial model, and ending up with a $3 billion a year revenue stream after four years of operations. Those of us in the room had a good chuckle around the table as we knew that was a completely ridiculous number. It highlighted that there must be a hidden assumption somewhere in the plan that was grossly inflating revenue.
The source identified and fixed, we came back down to Earth with a projected $300 million a year company after four years of operation. (Hey, it was 1999; everyone was thinking that way!) Which only goes to show that even when you think you've figured everything out, and triple-checked your assumptions, you can still be wildly wrong.
It is important to question every result and goal in your plan, even if they seem so rock-solid that it feels like a waste of time. At every major iteration of the digital.forest business plan, we have been able to prune out tacit assumptions that were based on wishful thinking, not on reality. If you don't do it first in the privacy of your office, it is likely that your bankers and investors will do so in a public space in front of people that you are trying to impress.
Lather, Rinse, Repeat
Businesses that have business plans that are not updated on a regular basis tend to be more at risk of failure than businesses without a plan at all. Why? Because a business plan that is not updated can act as a dead hand, guiding the company towards its doom.
The Soviets were fantastic planners. They generated 5-year plan after 5-year plan for things like farm collectivization, and industrial output targets. What they were spectacularly crappy at was updating their plans. Their plans would say they were going to make 75,000 shoes even if all the cows died, and there was no leather with which to make the shoes.
Far too many business people act like Soviets, and feel that once their business plan is written, they're done.
Nothing could be further from the truth. Competitors come and go, technology shifts, inflation goes up or down, things go well, things go poorly. Each of these, and a myriad of others not listed, are excellent reasons to update your business plan.
Without periodically updating your business plan, you run the risk of delivering products, and services your clients do not want or operating your business at a loss because market shifts have changed the profit model for your company.
Andy Grove of Intel says that only the paranoid survive. The reason for that is because the paranoid are constantly re-evaluating the status quo, and adjusting their plans accordingly as they go along.
The Last Laugh
While I still cringe when I re-read my first business plan, over the years it has evolved into a powerful document that has evolved with the times. It has provided direction and purpose to employees, investors judged the merits of it by entrusting their funds to digital.forest because of it, and companies we have acquired felt safe that we would treat their customers, and their staff well because we clearly knew what we were doing - it was written down for all to see.
NEXT MONTH: Accountants, lawyers and bankers - fun people to spend time with; really!
[Do you have a business question that you would like answered? Send it along to firstname.lastname@example.org
Chris Kilbourn is an independent small business, network and web infrastructure consultant. Chris is also the founder of digital.forest, Inc., http://www.forest.net, which offers database, application and web hosting services in addition to server colocation. When he's not out running marathons, you may contact him at email@example.com.