The FOURTH Commandment

Preparing a Business Plan

Prepare and work from a written plan that delineates who in the total organization is to do what, by when.

Until committed to paper, intentions are seeds without soil, sails without wind, mere wishes which render communication within an organization inefficient, understanding uncertain, feedback inaccurate, and execution sporadic. Without execution, there is no payoff. The process of committing plans to paper is easy to postpone under the press of day-to-day events. In the absence of a document, fully coordinated usage of the resources of the business is unlikely. Each participant travels along a different route toward a destination of his or her own choosing. Decisions are made independently, without a map. Time is lost, energy squandered.

“Getting it down on paper seemed to help.” This captures the verdict that many, if not most, successful entrepreneurs reach after they have toiled through the process of preparing a business plan either for a startup or for the coming year in an ongoing enterprise. But before such plans are put to paper, far too many business builders think, "I'm busy; I'll get to it later." Why is this so? Most people can write well enough. Why do people hesitate to commit to paper what is in their heads? The answer is complex, but it boils down to this: What is consciously in an entrepreneur’s head is usually not as complete, as good, or as promising as he or she would like to think it is. He or she may have an image but it is a long way from being a finished painting. Or, to use a different metaphor, the entrepreneur may have a melody, but it is not yet a symphony. The process of getting an idea down on paper in a business plan format can be a very creative one. It is not merely a matter of translation from head to paper, but of actually generating the complete original. This is typically a heavy undertaking.

That’s why the brain subconsciously whispers to itself:

Procrastinate, procrastinate. It senses that there’s big work ahead. Developing a symphony from a melody or a painting from an image isn’t easy. Generating a written plan for a serious business venture is the same kind of creative challenge.

There are several popular misconceptions about the basic purpose of business plans, particularly those describing a brand new venture. Some people promote them as documents for raising money. Others see the plans as essentially legal boilerplate to provide entrepreneurs with “I told you sos” later on if things go sour for outside or inside investors. Still others stress the preparation of a plan as a rite of passage, a cleansing experience that tends to separate the real players from the spectators and camp followers. A perspective that includes all these but is philosophically of much greater use is that a business plan is a blueprint for building a business. Few readers of this Commandment would attempt even the addition of a room to their houses without a drawing from which to work. A business plan is a word picture of what the entrepreneurial dream is, why the dream can be economically viable for those involved, and how the construction will be carried out over time.

As discussed in detail below, a business plan is most usefully thought of as an internal, operating document, not a showpiece for raising money or satisfying attorneys. A sound business plan can be an important contributor to success whenever one, two, three, or more people wish to organize and synchronize a purposeful business effort over time in order to achieve specified results. Whether or not money is raised via the plan, whether or not an attorney ever touches it, whether or not anyone but the writers ever read it, the energy invested in preparing a blueprint most often will have a high rate of return. This is true even and perhaps especially, when as a result of the effort to put together a workable, believable plan, an idea is abandoned. It’s better to cancel a flight at the gate than after takeoff. Starting a new growth enterprise is normally a relatively high risk proposition. If the venture is successful, that is, economically viable in a projected length of time, everyone is happy, but the requirements of growth are not trivial. If the venture is unsuccessful, careers, money, reputations, spouses, good health, and even lives can be lost. Assuming the leaders of the effort have the necessary personal drive, the height of risk tends to be inversely proportional to the presence of two prime ingredients:

1) the directly applicable experience and managing ability of the team responsible for the venture, and

2) the thoroughness of the thinking that goes into the undertaking before it starts. To some extent, they are interchangeable.

Part of the folklore of venture capital is that it is most profitable over the longer haul to bet on good people rather than simply great concepts. “Back a quality individual before backing a surefire idea,” was a motto of George Quist of Hambrecht and Quist, one of the oldest and most respected venture capital firms in the country.

When pressed to list the indicators of good people or quality individuals, people with proven experience in evaluating entrepreneurs usually include the following:

• Evidence of drive and achievement-orientation

• Applicable business or technical experience

• Verifiable integrity

• Ability to communicate ideas and plans

Increasingly, a fifth indicator is finding its way onto the list, namely a propensity toward team work. The turbulent times, current and projected, generate complexity in every aspect of the business world. A variety of skills is needed to cope successfully with the myriad issues that confront any growth company of consequence. No one individual is likely to have all the skills in sufficient depth to do a quality job across the board on a sustained basis. In short, soloists are falling from favor. A final point of perspective and perhaps clarification is that, by definition, a prospectus is “a report or statement which describes or advertises a forthcoming literary work, a flotation of stock, etc.” A prospectus is not a business plan. A business plan, however, may technically be a prospectus if it is used to raise money.

In summary, after preparing a business plan, the entrepreneurial management team should have before it an agreed program—expectations, actions, and results— to which it will willingly commit itself. After reading a business plan, a director, potential investor, or other interested party should know precisely what those involved intend to do, by when, with the human and financial resources called for in the plan.

Preparing a Business Plan

The length and sequence of contents in a business plan for a startup will depend upon the nature of the proposed venture. One major component that is almost always needed, however, is to describe just why, how, and when economic viability will be accomplished. Other objectives may exist and even seem to be of greater importance to the writers of a given plan, but economic viability is the one necessary condition around which the contents outlined below are molded. Without such viability, few business ventures, no matter how noble, survive for long. Self-sustaining cash flow—economic viability—is at the heart of being in business.

Why is normally addressed by first identifying precisely who outside the enterprise is interested in and qualified to buy whatever it is the enterprise will have to sell, the way it will be sold. How is indicated by a complete coverage of the human, production, organizational, and monetary requirements for providing the product or service on a timely and continuing basis consistent with the pricing and quality demands of a chosen marketplace. When is reflected by a thorough presentation of the financial implications over time of each important event called for in the plan.

In a plan that is to be read critically by others, it is also useful to have an overview or executive summary at the start. Such a section will probably be written last though it appears first. Overall, then, the contents of a basic blueprint for building a business are as follows:

Ø Overview

Ø Concept

Ø Objectives

Ø Market Analysis

Ø Production

Ø Marketing

Ø Organization and People

Ø Funds Flow and Financial Projections

Ø Ownership

1.0 CONCEPT

As suggested earlier, there is powerful evidence that the act of committing an idea to paper is a vital step in the idea's development. This is nowhere more true than when dealing with the fundamental notion underlying the formation of a new, growth venture. By nature, new ideas are fuzzy combinations of needs, interests, capabilities, frustration, optimism, ambition, and a dozen other ingredients. Few entrepreneurs wake up one morning with an Aha! Imprinted undeniably on their brains.

Instant photography, Internet search engines, fail-safe computers, resolvable tennis shoes, hang gliders, fast food stores, bungee jumping, and microcomputers were not conceived with the help of lightning bolts. In most instances, a notion or inkling takes some encouragement before it becomes a hunch. A hunch requires some massaging and mulling before it graduates into a discussion piece. A discussion piece demands conversation and research enroute to precarious classification as a full blown idea. An idea takes a lot of work to refine it into a concept upon which to build a business. With a single, well-developed concept, a massive business empire can be built. But a single product or service is seldom enough to justify the bodily wear and tear required to launch a business that has prospects of being listed some day on a stock exchange.

Above are a few examples to illustrate the difference between a product or service and at least one possible underlying concept. The examples do contain a touch of tongue in cheek. It is extremely unlikely that all the entrepreneurs responsible for the various products and services shown on the left initially elevated their basic ideas to the conceptual level on the right. The question is whether or not it would have been valuable for them to think the implications of their product or service all the way through to the customer/generic level, sooner rather than later.

There is another compelling reason to hammer a concept onto paper in black and white. The possibility of confusion, misunderstanding, and shallowness on the issue of What business are we in? is reduced. A reasonably refined concept can help insure that the second (and third and fourth...) product or service of a budding enterprise is synergistic and complementary to the first.

2.0 OBJECTIVES

The Third Commandment, covered elsewhere, stresses the importance and characteristics of sound objectives. Two levels of objectives should be included in a business plan. First, the longer-term interests (intentions, objectives) of the entrepreneur(s) should be identified. Second, the operating objectives—sales, profits, market share, margins, etc.—need to be spelled out. Both levels typically require a great deal of digging and iteration. They all need to be in harmony with one another. On the first level: What do the plan writers hope to achieve for themselves over the longer term? Most everybody, at a minimum, wants to make at least enough money to get along. But there is a huge difference in pursuing $1,000,000 in capital gains within three years and pursuing a steady stream of $75,000 net income per year for life. Neither of these two objectives holds the corner on virtue, but they are different. And knowing roughly what you, the plan writer, are after is important. Otherwise, critical readers of the plan don’t have a reference point for the plan's feasibility.

These seven measures are not meant to be the final word. A high number of points on a measure is not necessarily good. There have been hundreds of studies of whether successful entrepreneurs are born or made, renegades from society or heroes, lucky or inspired, identifiable in advance or random marriages of chance and capability. There’s a small school of thought in favor of each argument, and chances are good that there will be even more theories in the days ahead as technological advances put immense capabilities at the fingertips of those who are opportunity-minded. When used as points of departure, however, the seven measures above can help an entrepreneur be honest with himself or herself and with the other contributors to the business plan, the blueprint for building the business. One thing is for certain: A business plan written by people with widely differing or conflicting personal objectives is likely to end up as rough reading rather than a smooth description of how the enterprise will compete in a chosen industry.

The second and more obvious level of objectives that should be included in the business plan are those having to do with operating matters such as sales, profits, market share, and so on. The word objective implies what we are going to make happen. An objective is more than a wish. It is an end result to which resources–cash and people–will be allocated. Below -are some objectives lifted from a variety of business plans.

3.0 MARKET ANALYSIS

There is a difference between a need and a market. To use a classic example, the management of Ford Motor Company at one point in time perceived a need for a large, flashy car with a lot of gadgetry for the driver. Ford gave the world the Edsel automobile. For a variety of reasons, the perceived need did not turn out to be a market of consequence when the car was introduced. While many people liked the gadgetry, there were only a few people favorably disposed toward buying a large, flashy, futuristic car.

Here is another example. For some years now a few big manufacturers have been cultivating a need for DVD players in the home. The same is going on today with Internet devices. The cultivating is slowly paying off, and gradually the potential need is being converted around the edges into a market, i.e., a definable group of people favorably disposed toward buying the product.

The purpose of the market analysis section of a business plan is to identify as precisely as possible the size, location, and characteristics of the set of people who are expected to be favorably disposed toward buying what the new enterprise expects to sell.

Please note with care the contents of the last sentence. It includes: people . . . favorably disposed toward buying. If you are planning to get money in the form of sales dollars from people not yet favorably disposed toward your new product or service, then it is important that you state as much in your market analysis. There’s nothing categorically wrong with undertaking to create a market. Many entrepreneurs have done it. Doing so requires what is appropriately called missionary marketing. But it’s expensive, and your capitalization will have to be sufficient to cover it. In addition, you will need the services of people skilled in such work.

4.0 PRODUCTION

There are a variety of ways to make most products. The mix between capital equipment and people, made parts and bought parts, assemble here versus assemble there, and so forth, has to be worked out. Every decision has implications for product delivery times, cash flow, quality control requirements, and other elements of a manufacturing business such as staffing and facility requirements. Likewise, service-business management teams face early choices that often set a new business on a path from which it may be quite hard to turn later. Location is a major consideration if customers need direct access to the business. Key people, high skill or low, must be available nearby. It is hard to produce custom wood furniture without skilled woodworkers, for example. In summary, given a positive point of view about an identified market opportunity, production to capitalize on that opportunity is a key blueprint ingredient.

Production plans probably flow easiest from hard to soft, that is, from equipment lists to systems considerations and people, once a production philosophy has been established. Production philosophies generally start with a decision about where the company will position itself on the make-versus-buy continuum. There are two well-known, high-flying, publicly-held computer companies that have each exceeded $100,000,000 in sales in recent years. Neither actually manufactures more than about 15 percent of its own hardware. Eighty-five percent of every system they ship consists of vendor-supplied parts. This ratio is neither good nor bad, only different from the more traditional pattern of making what you sell. The ratio merely reflects what two different management teams have decided is best for their own enterprises. What is best for your particular enterprise? There is no one answer. It depends most on what it is your management team does best and where money tends to get spent or made in your chosen industry.

5.0 MARKETING

As used here, marketing is a broad term that includes all aspects of creating and keeping customers. A business plan should reflect a detailed description of precisely how the targeted population described in the market analysis (Section 3.0) will be allowed or coaxed to exchange its money for your product and/or service on a continuing basis. Here are some of the questions to be answered:

• How will customers' needs be identified, classified, and fed into the workings of the business?

• How will customer satisfaction be tracked?

• What methods of selling and advertising and communicating are to be used to carry the messages of your business to the intended audience(s)?

• What will make the chosen channels of distribution productive, e.g., incentive systems, packaging innovations?

• What product or service features and benefits are to be emphasized? How do they stack up against competition?

• How are credit approval, collections, and complaints to be administered?

• Who is involved in pricing decisions, and what is the basis for decisions, e.g., cost, value added, value to customer?

• What are the plans for the development and/or evolution of the product or service?

• What level, if any, of research activities are needed to sustain or accelerate the growth of business?

• What responses by competitors are likely, if any, and how will they be countered, if at all?

• What is the schedule of who is to do what, by when, regarding marketing?

• From the above, what is the budget, the timing, and the magnitude of expenditures?

• What will be done if the business grows much faster than expected? Much, much slower than expected?

There is always an element of guesswork in predicting what is going to happen in the marketplace. This is one powerful reason why the width of management’s experience base in the chosen industry is of major importance to an outsider evaluating a proposed business. The broader the base, the more valid management’s expectations should be and the less likelihood there is of surprises. Candidates for entrepreneuring who have backgrounds in the steel industry are going to be less than convincing when they describe their campaign to dominate the world yogurt market. Here is a final point of perspective under the general heading of marketing. You may have noted that the word strategy has not been used so far in this material

on Preparing a Business Plan. It is a word that has been overpublicized to the point of confusion. Everything is a strategy. As a practical matter, there are potentially three levels of strategy in a growth company: Corporate, Business, and Functional. Corporate strategy has to do with what business or businesses the enterprise will be in...and by exclusion, therefore, not in. Then, hopefully, each of the one or more businesses in a given corporation has a discrete business strategy. This is best defined as a summary statement covering what will be sold, to whom, in pursuit of the expectations that have been set for the business unit. And finally, within a given business unit, there are usually functional strategies for manufacturing, marketing, finance, purchasing, personnel, and so on, that summarize how objectives will be pursued.

In the marketing section of a business plan, all three levels of strategy may well be covered, but typically the emphasis is on business and functional issues. In a single business company—such as most new companies—the corporate and business strategies are one and the same anyway. Fundamentally, there are only six basic business strategies: Product Development, Market Development, Forward Integration, Backward Integration, Diversification, and, of course, Stay Put, i.e., continuing to sell just what you have been to your existing customers.

6.0 ORGANIZATION AND PEOPLE

People make things happen. The right people make the right things happen. Selecting and fitting the right people to key responsibilities is a continuous process that ideally starts before or at the time the business plan is developed so that the document truly reflects the input of the team that is to execute it. There are at least four layers of talent potentially active in an enterprise: A board of directors or advisors, the general management, functional specialists, and other key individuals. Some people will contribute in more than one layer. As suggested in Commandment One, directors are often chosen for convenience rather than for the specific talents they might bring to the organization. This is a mistake. Qualified, interested, informed directors can be useful in guiding a company to economic viability and beyond. Properly used, a board can be an internal consulting group or a sounding board for management rather than just a legal appendage or a comfortable formality for the chief executive officer. The senior layer of talent, the board of directors or advisors, should provide perspective based on solid, related experience. As implied earlier in this Fourth Commandment, general management is a prime ingredient for success in most growth companies. Managing here is defined as setting expectations and achieving results through (not with or for) others. Almost every outstanding team in any field of endeavor has one or more good coaches, people responsible for the results who must pursue those results via their subordinates or associates.

In smaller companies, most of the key people often have to wear a manager’s (coach’s) hat part of the time and a doer’s hat the rest of the time. Under such circumstances, it’s easy for the distinction between the two different kinds of work to become blurred. Both kinds of work are necessary for successful entrepreneuring. When blurring occurs, it is often the managing work that gets shoved aside in the rush of day-to-day pressures to obtain orders, finish designs, produce goods, and ship things. A proper organization design can help insure that managers are in place and motivated and free to spend the necessary time on planning and supervising others in pursuit of the expectations of the enterprise, i.e., the vision, mission, and objectives.

7.0 FUNDS FLOW AND FINANCIAL PROJECTIONS

Startup money (initial capitalization) is the temporary glue that holds the building blocks of a new company together until the merit of the company’s product or service is widely enough recognized and valued in the marketplace to generate the earnings needed to support and build the business. The amount and timing of the startup money needed is derived primarily from the production, marketing, organizational, and perhaps technology sections of the business plan discussed earlier.

Many new companies do not require startup money from outside investors. Some do. Entrepreneurs often worry about how much of their companies they will have to give up to investors before they worry about how much glue they need to successfully launch the enterprise. This is backward thinking. A healthier perspective goes something like this:

1) The needs of the business should dictate the amount and timing of the capital required. It probably takes less to start a consulting practice than it does to found a toy company.

2) If the amount required exceeds what the founder(s) can provide, he, she or they should consider raising the incremental money needed from investors. It is usually better to bring in outside money than to start short, i.e., start thinly capitalized. And it is often easier to raise money before starting operations than to try to do so after starting when cash gets tight.

3) For those with growth-company ambitions, it is better to own a small piece of a big pie than vice versa. Money is a continuing need in a growth company. The aspiring entrepreneur who is unable to appreciate (and/or raise) money may be better off setting more modest expectations for himself or herself.

4) Recognize that you are not giving up anything when you bring in outside money, you are selling a piece of the company.

5) If you decide to use them, solicit buyers (investors) who are in synch with your objectives. (See Commandment One.) Be well prepared to negotiate the price. Do your homework. The amount of money you are able to get for a portion of your company will depend on:

• How much money is needed.

• The magnitude and shape (rewards/risks) of the opportunity.

• The background of the management team.

• The quality of the business plan.

• The chemistry between the individuals involved.

• What’s going on in the world at the time of the decision.

It’s academic to worry about “giving up an arm and a leg” until you have crystallized the size of the transaction. A detailed, realistic cash flow projection is the basic technique for determining the needs of a growth business. A cash flow projection consists of three fundamental elements: cash in, cash out, and timing. A skeleton projection is shown on the next page.

The Periods at the top can be months, quarters, or years. Typically, a business plan for a substantial enterprise will show months for the first year or two, quarters for an additional year or two, and years for the balance up to a total of four or five years. While few readers expect the later years’ projections to turn out to be 100 percent accurate, it is important that growth company managers think through their opportunity beyond a year or so, even if there are major unknowns. Items a. and b., Units Sold and Units Shipped/Provided, are increasingly important indicators of the reasonableness of a given plan. The units can be units of service, contracts, boxes of product, gallons, whatever is the basic element of transaction in the business. If the rate at which units move is suspect, the validity of the entire cash flow will be open to question.

8.0 OWNERSHIP

The discipline of preparing a business plan helps founders identify the requirements of the enterprise, the In a sense, the business plan is the recipe. Money is usually one ingredient. Money is often tied to ownership. While all ventures benefit from a business plan, many ventures do not require outside money. For those that do, it is probably obvious that a highly experienced, two person founding team of an enterprise in need of $2 million in capital faces a somewhat different situation than a young, five-person team in need of only $200,000. That’s why general rules for deal making are of limited value. They seldom fit the particular circumstance. The overriding principle is quite simple, however: All the primary participants should feel that any deal finally agreed to is essentially fair. Smart outside investors don’t want to put money into a company which has some unhappy team members because they feel they were done wrong. And smart entrepreneurs don’t want unhappy investors who walk away or send in their lawyers the next time money is required or the first time the company bumps into a crisis.