Figuring the Costs of Running Your New Business
It's opening day and you are ready to serve customers for your new business. But do you have the staying power to make it through those critical first 90 days?
What will it cost you to run your new business? In addition to the funds you need to get started, you'll need to consider the first 90 days of business costs you can expect to incur. Moreover, you'll need to forecast your sales to estimate how much you can expect to earn. Obviously, the more you earn, the less you'll have to pay out of your pocket to keep the business going for the critical startup period.
Don't forget that at the same time your new business is incurring costs, you and your family will have living expenses to cover. Potential new business owners should consider a one- to three-year plan for family survival, at a minimum. Lack of staying power, especially in small businesses that may not generate enough cash to live on for the first year or two, is another reason that small businesses fail.
Estimating Costs for the First 90 Days
When starting a new business, the amount of money needed to keep the business running, called working capital, will vary by type of business. If your new business is a one-employee consulting firm, you will have a much smaller working capital requirement than a retail establishment that has a large inventory.
Assume your new business is a retail establishment that is selling furniture and, as a promotion, you plan to give buyers 90 days to pay. Your working capital needs could be huge. First, you have to buy your inventory, then, after it sells, pay for the replacement inventory. This could mean that you will not receive one dollar to pay bills for at least 90 days after you open the doors. If you don't plan for this working capital need in advance, you probably won't even stay in business for 90 days.
A good rule of thumb is to have access to enough working capital to pay all of your bills, except inventory purchases, for the first 90 days of operations. Inventory purchases will follow the special rules noted below. Ninety days of working capital is necessary to account for any mistakes you made when making your cash forecasts. If sales are slow or you run into unexpected startup expenses, this working capital will get you through.
Included among Business Tools is an initial cash requirements worksheet for a new business. The worksheet is an Excel template.
The worksheet is set up to be used for forecasting your cash requirements for the startup of your new business. We've formatted the worksheet and put in most of the cash requirement categories for you. All you have to do is add your numbers. Once you've downloaded the worksheet, feel free to modify it to fit your own needs.
Listed below are the cash requirements needed to keep the business open for the first 90 days. Note that these are the cash requirements that you will incur only from day one of your business through day 90.
- Advertising: How much to spend on advertising depends on the type of business and the amount of competition. If you will be opening a retail establishment and plan to get your competitor's customers, your advertising budget will have to take that into account. A good place to find out the amount that should be spent on advertising is from trade publications. See our discussion of advertising and marketing costs for more information on new business advertising.
- Bank service charges: These usually are not a significant amount, but your bank should be able to give you an idea of how much to budget per month for these charges.
- Credit card fees: These fees are usually based upon card usage. Normally the costs are about 3 percent of the total charges. If you intend to allow your customers to buy your product or services by credit card, and you expect your business to have high credit card usage, allow the full 3 percent of sales. A chief benefit of credit card sales is the immediate business bank account deposit made electronically at the end of each day, making same-day payment a reality for any business doing credit card sales. This is especially advantageous if 30-day or longer payment terms can be arranged for inventory and other vendors. As the volume grows, it may be possible to invest this "float" in short-term 30-day T-bills or other financial instruments to make additional cash.
- Delivery charges: These charges are for the cost of having inventory delivered to you. When you arrange for your inventory purchasing, you will be able to find out your delivery charges.
- Dues and subscriptions: These expenses will vary by type of business. If you are in a regulated or professional industry, the expenses will be higher. For most retailers, trade association dues are nominal if they are the primary customers or buyers going to the trade shows. However, their travel expenses may be substantial for the many regional and national trade shows. This is also time away from the business, which is stressful for many small business owners.
- Interest: If you will be financing your new business with loans, compute the expected interest payments in your working capital needs.
- Inventory: When planning your working capital needs, include the additions to inventory that you will not receive cash for immediately. If inventory purchases are to replace inventories from cash sales, do not include them in your working capital budget.
As you work through these topics, don't forget that your accountant can be a great source of information for helping you make startup cost estimates. If your accountant has advised other small business startups, he or she should be able to tell you whether your estimates are on target.
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