Chapter 4

Chapter outline

I. Business Models and Their Importance

II General Categories of Business Models

A. Standard Business Models

B. Disruptive Business Models

III. The Barringer/Ireland Business Model Template

A. Core Strategy

1. Business Mission

2. Basis of Differentiation

3. Target Market

4. Product/Market Scope

B. Resources

1. Core Competencies

2. Key Assets

C. Financials

1. Revenue Streams

2. Cost Structure

3. Financing/Funding

D. Operations

1. Product (or Service) Production

2. Channels

3. Key Partners

Review Questions

What is a business model?

Answer: A business model is a firm’s plan or recipe for how it creates, delivers, and captures

value for its stakeholders.

How does a freemium business model work?

Answer: A freemium business model is a business model in which a firm provides a basic

version of its service for free, and makes money by selling a premium version of the service.

What is the best time for a firm to develop its business model?Answer: After the initial validation of the business idea and prior to fleshing out the operational

details of the company.

What is a standard business model and what is a disruptive business model?

Answer: Standard business models depict existing plans or recipes firms can use to determine

how they will create, deliver, and capture value for their stakeholders. Disruptive business

models, which are rare, are models that do not fit the profile of a standard business model, and

are impactful enough that they disrupt or change the way business is conducted in an industry or

an important niche within an industry.

What are the four major categories that comprise the Barringer/Ireland Business Model

Template?

Answer: Core Strategy, Resources, Financials, and Operations.

How are a firm’s core strategy and its mission related to each other as parts of a business

template?

Answer: The Barringer/Ireland Business Model Template consists of four categories: Core

Strategy, Resources, Financials, and Operations. A firm’s mission is one of four elements of the

core strategy portion of the business model template.

What is a company’s “basis of differentiation” and what is the importance of this part of a

business template?

Answer: A business’s basis of differentiation is what differentiates it from competitors. It’s

important that a business clearly articulate the points that differentiate its product or service from

competitors. A company’s basis of differentiation is what causes consumers to pick one

company’s products over another’s. It is what solves a problem or satisfies a customer need.

Why do most entrepreneurial firms initially choose to compete within a narrow target market?

Answer: Because a new business typically does not have sufficient resources to compete in broad

markets.

What is a company’s product/market scope?Answer: A company’s product/market scope defines the products and markets on which it will

concentrate.

Why are the resources a firm possesses a critical part of its business model?

Answer: Resources are the inputs a firm uses to produce, sell, distribute, and service a product or

service. A firm must have sufficient resources to make its business model work.

What is a core competency?

Answer: A core competency is a specific factor or capability that supports a firm’s business

model and sets it apart from rivals.

What are a firm’s key assets?

Answer: Key assets are the assets that a firm owns that enable its business model to work.

What is a revenue stream and why is it so important to a firm’s short- and long-term success?

Answer: A revenue stream describes a way in which a business makes money. It is important

because revenues drive the business both in the short and in the long-term.

How do fixed costs differ from variable costs?

Answer: Fixed costs are costs that remain the same despite the volume of goods or services

provided. Variable costs vary proportionally with the volume of goods or services provided.

What are the primary elements of the Operations component of the Barringer/Ireland Business

Model Template?

Answer: Product (or Service) Production, Channels, and Key Partners.

Who are “key partners” and why are they important to the success of an entrepreneurial venture?

Answer: Key partners include the key relationships that start-ups strike with other businesses.

Start-ups typically do not have sufficient resources to perform all the tasks needed to make their

business models work, so they rely on partners to perform key roles.What are some common advantages that accrue to a firm as a result of partnering with other

companies?

Answer: Gaining access to a particular resource, risk and cost sharing, speed to market, and

learning.

Chapter 6

Chapter outline

I. The Business Plan

A. Reasons for Writing a Business Plan

B. Who Reads the Business Plan—and What Are They Looking For?

1. A Firm’s Employees

2. Investors and Other External Stakeholders

C. Guidelines for Writing a Business Plan

1. Structure of the Business Plan

2. Content of the Business Plan

a. Style or Format of the Business Plan

b. Recognizing the Elements of the Plan May Change

II. Outline of the Business Plan

A. Exploring Each Section of the Plan

1. Cover Page and Table of Contents

2. Executive Summary

3. Industry Analysis

4. Company Description

5. Market Analysis

6. The Economics of the Business

7. Marketing Plan

8. Product (or Service) Design and Development Plan

9. Operations Plan

10. Management Team and Company Structure11. Overall Schedule

12. Financial Projections

13. Appendix

14. Putting It All Together

III. Presenting the Business Plan to Investors

A. The Oral Presentation of a Business Plan

B. Questions and Feedback to Expect from Investors

Chapter 6 Review questions

What is a business plan?

Answer: A business plan is a written narrative, typically 25 to 35 pages long,

that describes what a new business plans to accomplish and how it plans to

accomplish it.

What are the advantages of preparing a business plan for a new venture?

Answer: For most new ventures, the business plan is a dual-purpose document

used both inside and outside the firm. Inside the firm, the plan helps the

company develop a “road map” to follow in executing its strategies and plans.

Outside the firm, it introduces potential investors and other stakeholders with

the business opportunity the firm is pursuing and how it plans to pursue it.

When is the appropriate time to write a business plan?

Answer: The time to write a business plan is toward the end of the stage in the

entrepreneurial process titled “Moving from an Idea to an Entrepreneurial

Firm.” It is a mistake to write a full business plan too early. The business plan

must be substantive enough to have sufficient details about the merits of the

new venture to convince the reader that the new business is exciting and should

receive support.

What are the two primary reasons for those starting a new venture to write a

business plan?

Answer: A business plan is important for two reasons. First, a business plan is

an internal document that helps a new business flesh out its business model and

solidify its goals. Second, a business plan is a selling document for a company.

It provides a mechanism for a young company to present itself to potentialinvestors, suppliers, business partners, and key job candidates by showing how

all the pieces of a new venture fit together to create an organization capable of

meeting its goals and objectives.

Who reads the business plan and what are they looking for when doing so?

Answer: (1) A firm’s employees and (2) investors and other external

stakeholders. A firm’s employees read its business plan to more fully

understand the vision and mission of the firm, its operational details, and to

make sure the role they play in the firm is in sync with the entirety of the plan.

Investors and other stakeholders read the plan to assess the feasibility of the

business’s idea and to make a judgment on how exciting an opportunity the

business represents.

How will investors typically react if they think a business plan is based on

estimates and predictions rather than on careful analysis and facts?

Answer: To appeal to investors, a business plan must be realistic and not

reflective on overconfidence on the firm’s part. Overly optimistic statements or

projections undermine a business plan’s credibility, so it is foolish to include

them. Entrepreneurs can obtain facts to substantiate their plans by conducting

both primary and secondary research.

Why is it important for a business plan to follow a conventional structure rather

than be highly innovative and creative?

Answer: Typically, the people who read a business plan are very busy, and want

a plan where they can easily find critical information.

What are the differences between a summary business plan, a full business plan,

and an operational business plan?

Answer: A summary business plan is 10 to 15 pages and works best for

companies that are very early in their development and are not prepared to write

a full plan. A full business plan is typically 25 to 35 pages long, and it works

best for new ventures that are at the point where they need funding or financing,

and serves as a “blueprint” for a company’s operations. An operational business

plan is 40 to 100 pages long, and is meant primarily for an internal audience. It

works best as a tool for creating a blueprint for a new venture’s operations and

providing guidance to operational managers.

Why should the executive summary, which is one of the first things that appears

in a business plan, be written last?Answer: The plan itself will evolve as it’s written, so not everything is known at

the outset. In addition, if you write the executive summary first, you run the risk

of trying to write a plan that fits the executive summary rather than thinking

through each piece of the plan independently.

What is the difference between the industry analysis section and the market

analysis section of a business plan?

Answer: The industry analysis describes the industry the business will be in,

such as the toy industry, the fitness center industry, or the electronic games

industry. The market analysis describes the specific target market within the

broader industry the firm plans to target, such as the educational toy market for

two- to seven-year-old children in the broader toy industry.

What is the difference between a concentrated and a fragmented industry?

Answer: Concentrated industries are dominated by a few large firms, whereas

fragmented industries include a large number of smaller companies.

Fragmented industries are more receptive to new firms.

What is the purpose of “The Economics of the Business” section of a business

plan?

Answer: The economics of the business section of a business plan addresses the

basic logic of how profits are earned in the business as well as the sales level

required to break even.

What is the purpose of the “Operations Plan” section of a business plan?

Answer: The operations plan section of a business plan outlines how the

business will be run and how the product or service will be produced.

Why is the “Management Team and Company Structure” section of a business

plan often touted as one of the most important sections?

Answer: Because investors and others place a high value on the composition of

a new venture’s management team (in terms of experience, educational

background, past accomplishments, etc.) and often look at other sections of the

plan only if the Management Team and Company Structure section is

sufficiently convincing.

What is the purpose of a sources and uses of funds statement?

Answer: The financial portion of a business plan should begin with an

explanation of the funding that will be needed by the business during the nextthree to five years along with an explanation of how the funds will be used. This

information is called a sources and uses of funds statement.

What is the purpose of an assumptions sheet?

Answer: An assumption sheet explains the basis for the numbers included in the

pro forma financial statements. It is important to inform the readers of a

business plan of the major “assumptions” under which the financial numbers

were generated.

What are the differences between historical financial statements and pro forma

financial statements?

Answer: Historical financial statements look backward and pro forma financial

statements look forward.

Chapter 7

Chapter outline

I. Establishing a Strong Ethical Culture for a Firm

A. Lead by Example

B. Establish a Code of Conduct

C. Implement an Ethics Training Program

II. Dealing Effectively with Legal Issues

A. Choosing an Attorney for a Firm

B. Drafting a Founders Agreement

C. Avoiding Legal Disputes

1. Meet All Contractual Obligations

2. Avoid Undercapitalization

3. Get Everything in Writing

4. Set Standards

III. Obtaining Business Licenses and Permits

A. Federal Licenses and Permits

B. State Licenses and Permits

1. Business Registration Requirements

2. Sales Tax Permits

3. Professional and Occupational Licenses and PermitsC. Local Licenses and Permits

IV. Choosing a Form of Business Organization

A. Sole Proprietorship

1. Advantages of a Sole Proprietorship

2. Disadvantages of a Sole Proprietorship

B. Partnerships

1. General Partnerships

2. Advantages of a General Partnership

3. Disadvantages of a General Partnership

4. Limited Partnerships

C. Corporations

1. C Corporations

2. Advantages of a C Corporation

3. Disadvantages of a C Corporation

4. Subchapter S Corporation

D. Limited Liability Company

1. Advantages of a Limited Liability Company

2. Disadvantages of a Limited Liability Company

Review questions

When should your friend, who is considering launching a consulting firm to provide financial

services to small businesses, think about the ethical climate she wants to establish in her venture?

Answer: Before the firm is launched.

Based on the information included in this chapter, in general, do entrepreneurs tend to

overestimate or underestimate their knowledge of the laws that pertain to starting a new firm, and

why?

Answer: In general, entrepreneurs tend to overestimate their knowledge of the law. As a result,

entrepreneurs should seek legal advice before they start a firm, and also read books and study

Web sites to acquaint themselves with the most pertinent legal issues they will confront.

Why is it important for an entrepreneur to build a strong ethical culture for his or her firm?

Answer: Ethical errors early on can be extremely costly for a new firm, in terms of its reputation

and its ability to forge favorable business partnerships.What are some of the specific steps that can be taken in an entrepreneurial venture for the

purpose of building a strong ethical culture?

Answer: Some specific steps an entrepreneurial venture can take to build a strong ethical culture

are: lead by example, establish a code of conduct, and implement an ethics training program.

What is the purpose of a code of conduct?

Answer: A code of conduct describes the firm’s general value system, moral principles, and

specific ethical rules that apply in a particular business. The purpose is to promote a healthy

climate of business ethics in a firm. It can also help a firm avoid litigation.

What are some of the more important criteria to consider when selecting an attorney for a new

firm?

Answer: Table 7.3 in the textbook provides guidelines to consider when selecting an attorney. It

is critically important that the attorney be familiar with start-up issues and that he or she has

successfully shepherded entrepreneurs through the start-up process before.

What is a founders’ agreement and why is it important for a team of entrepreneurs to have one in

place when launching a venture?

Answer: A founders’ agreement is a written document that deals with issues such as the relative

split of the equity among the founders of the firm, how individual founders will be compensated

for the cash or the “sweat equity” they put into the firm, and how long the founders will have to

remain with the firm for their shares to fully vest.

What is the purpose of a nondisclosure agreement and the purpose of a noncompete agreement?

A nondisclosure agreement is a promise made by an employee or another party (such as a

supplier) to not disclose a company’s trade secrets. A noncompete agreement prevents an

individual from competing against a former employer for a specific period of time

How can entrepreneurial ventures avoid legal disputes?

Answer: Meet all contractual obligations on time, avoid undercapitalization, get everything in

writing, and promote business ethics.What is mediation and how do entrepreneurs use it to resolve disputes?

Answer: Mediation is a process in which an impartial third party (usually a professional

mediator) helps those involved in a dispute reach an agreement.

At what point, during the process of starting a firm, does a business need to focus on the business

licenses and permits that it needs, and why at that point?

Answer: Almost all licenses and permits must be in place before a business launches. Business

licenses and permits vary by city, so it’s important to check local rules and ordinances. For

example, some cities (and even neighborhoods within cities) have very strict rules about putting

up signs, whereas other cities have lax rules.

Why isn’t choosing a legal entity a one-time event?

Answer: As a business grows and matures, it is necessary to periodically review whether the

current form of business organization remains appropriate.

What might trigger a firm’s decision to change how it is legally organized?

Answer: A firm’s decision to change how it is legally organized might be triggered by a shift in

strategy, or by tax or legal issues.

What are the advantages and disadvantages of organizing a new firm as a sole proprietorship?

Answer: Advantages of organizing as a sole proprietorship: (1) creating one is easy and

inexpensive; (2) the owner maintains complete control of the business and retains all the profits;

(3) business losses can be deducted against the sole proprietor’s other sources of income; (4) the

business is not subject to double taxation; and (5) the business is easy to dissolve.

Disadvantages of a sole proprietorship: (1) liability on the owner’s part is unlimited; (2) the

business relies on the skills and abilities of a single owner; (3) raising capital can be difficult; (4)

the business ends at the owner’s death or loss of interest in the business; and (5) the liquidity of

the owner’s investment is low.

Is a sole proprietorship an appropriate form of ownership for an aggressive entrepreneurial firm?

Why or why not?Answer: A sole proprietorship is not an appropriate form of ownership for an aggressive

entrepreneurial firm. An aggressive firm will probably need to raise capital early in its life,

which is not possible under the sole proprietorship form of ownership (i.e., equity can’t be shared

with others). A sole proprietorship also needlessly exposes an entrepreneur to personal liability

for the actions of the firm.

What are the differences between a general partnership and a limited partnership?

Answer: A general partnership is a form of business organization where two or more people pool

their skills, abilities, and resources to run a business. A limited partnership is a modified form of

a general partnership. The major difference between the two is that a limited partnership includes

two classes of owners: general partners and limited partners. The general partner is liable for the

behavior of the firm. The limited partners are liable only up to the amount of their investment.

What are the major advantages and disadvantages of a C corporation?

Answer: Advantages of a C corporation: owners are liable only for the debts and obligations of

the corporation up to the amount of their investment; the mechanics of raising capital is easier;

no restrictions on the number of shareholders; stock is liquid if traded on a major stock

exchange; and the ability to share stock with employees through stock option or other incentive

plans can be a powerful form of employee motivation.

Disadvantages of a C corporation include: setting up and maintaining one is more difficult than

for a sole proprietorship or a partnership; business losses cannot be deducted against the

shareholders’ other sources of income; income is subject to double taxation, meaning that it is

taxed at the corporate and the shareholder levels; and small shareholders typically have little

voice in the management of the firm.

How is a C corporation subject to double taxation?

Answer: A disadvantage of corporations is that they are subject to double taxation, which means

that a corporation is taxed on its net income and when the same income is distributed to

shareholders in the form of dividends, is taxed again on shareholders’ personal income tax

returns.

What is the difference between preferred stock and common stock?

Answer: Most C corporations have two classes of stock: common and preferred. Preferred stock

is typically issued to conservative investors who have preferential rights over common

stockholders in regard to dividends and to the assets of the corporation in the event of

liquidation. Common stock is issued more broadly than preferred stock. The commonstockholders have voting rights and elect the board of directors of the firm. The common

stockholders are typically the last to get paid in the event of the liquidation of the corporation,

that is, after the creditors and the preferred stockholders.

What is meant by the term piercing the corporate veil and what are the implications for the

owners of a corporation if the corporate veil is pierced?

Answer: It is important that a corporation’s owners fully comply with all regulations pertaining

to a corporation. If the owners of a corporation don’t file their annual paperwork, neglect to pay

their annual fees, or commit fraud, a court could ignore the fact that a corporation has been

established, and the owners could be held personally liable for actions of the corporation. This

chain of events is referred to as piercing the corporate veil.

What are the differences among a public corporation, a closely held corporation, and a private

corporation?

Answer: Public corporations are firms that are listed on a major stock exchange, such as the New

York Stock Exchange or the Nasdaq. Closely held corporations are firms that are owned by a

small number of individuals and the corporation’s stock is very thinly or infrequently traded.

Private corporations are firms in which all the shares are held by a few shareholders, such as

management and family members, and are not publicly traded. Public corporations enjoy the

highest level of liquidity for its stock.

What are stock options and why would a corporation offer stock options to its employees?

Answer: Stock options are a special form of incentive compensation. These plans provide

employees the option or right to buy a certain number of shares of their company’s stock at a

stated price over a certain period of time. The most compelling advantage of stock options is the

potential rewards to participants when (and if) the stock price increases. As employees

accumulate stock options, the link between their potential reward and their company’s stock

price becomes increasingly clear. This link provides a powerful inducement for employees to

exert extra effort on behalf of their firms in hopes of positively affecting the stock price.

What are the advantages and disadvantages of a limited liability company?

Answer: Advantages of a limited liability company: members are liable for the debts and

obligations of the business only up to the amount of their investment; the number of shareholders

is unlimited; an LLC can elect to be taxed as a sole proprietor, partnership, S corporation, or

corporation, providing much flexibility; and because profits are taxed only at the shareholder

level, there is no double taxation.

Disadvantages of a limited liability company: setting up and maintaining one is more difficult

and expensive; tax accounting can be complicated; some of the regulations governing limitedliability companies vary by state; because LLCs are a relatively new type of business entity,

there is not as much legal precedent available for owners to anticipate how legal disputes might

affect the business; and some states level a franchise tax on LLCs—which is essentially a fee the

LLC pays the state for the benefit of limited liability.

Is a limited liability company an appropriate form of ownership for an aggressive entrepreneurial

firm? Why or why not?

Answer: A limited liability company is an appropriate form of ownership for an aggressive

entrepreneurial firm. It is a more suitable form of ownership than a sole proprietorship or a

general partnership for raising money, it shields its owners from personal liability, and it avoids

the double taxation complication of a C corporation.

Chapter 8

Outline

I. Introduction to Financial Management

II. Financial Objectives of a Firm

III. The Process of Financial Management

IV. Financial Statements

A. Historical Financial Statements

1. Income Statement

2. Balance Sheet

3. Statement of Cash Flows

4. Ratio Analysis

5. Comparing a Firm’s Financial Results to Industry Norms

V. Forecasts

A. Sales Forecast

B. Forecast of Costs of Sales and Other Items

VI. Pro Forma Financial Statements

A. Pro Forma Income Statement

B. Pro Forms Balance Sheet

C. Pro Forma Statement of Cash Flows

D. Ratio AnalysisChapter 8 Review questions

What are the two primary functions of the financial management of a firm?

Answer: Raising money and managing a company’s finances in a way that achieves the highest

rate of return.

What are the four main financial objectives of a firm?

Answer: Profitability, liquidity, efficiency, and stability.

What is meant by the term efficiency as it relates to the financial management of a firm?

Answer: Efficiency is how productively a firm utilizes its assets relative to its revenue and its

profits.

What is meant by the term stability as it relates to the financial management of a firm?

Answer: Stability is the strength and vigor of the firm’s overall financial posture.

What is the purpose of a forecast? What factors does a firm use to create its forecasts of future

sales, income, expenses, and capital expenditures?

Answer: A forecast is an estimate of a firm’s future income and expenses, based on its past

performance, its current circumstances, and its future plans. New ventures typically base their

forecasts on an estimate of sales and then on industry averages or the experiences of similar start-

ups regarding the cost of goods sold (based on a percentage of sales) and on other expenses.

On what factors or conditions do completely new firms base their forecasts?

Answer: New ventures typically base their forecasts on an estimate of sales and then on industry

averages or the experiences of similar start-ups regarding the cost of goods sold (based on a

percentage of sales) and on other expenses.

What is the purpose of an income statement? What are the three numbers that receive the most

attention when evaluating an income statement? Why are these numbers important?

Answer: The income statement reflects the results of the operations of a firm over a specified

period of time. It records all the revenues and expenses for the given period and shows whetherthe firm is making a profit or is experiencing a loss. The three numbers that receive the most

attention when evaluating an income statement are the following:

Net sales consists of total sales minus allowances for returned goods and discounts.

Cost of sales includes all the direct costs associated with producing or delivering a product or

service, including the material costs and direct labor.

Operating expenses include marketing, administrative costs, and other expenses not directly

related to producing a product or service.

These numbers are instrumental in figuring the net income of a firm over a given period of time

(usually a month or a year).

How does a firm compute its profit margin? What is the significance of this ratio?

Answer: A firm’s profit margin, or return on sales, is computed by dividing net income by net

sales. A rising profit margin means that a firm is either boosting its sales without increasing its

expenses or that it is doing a better job of controlling its costs. In contrast, a declining profit

margin means that a firm is losing control of its costs or that it is slashing prices to maintain

market share.

How does a firm compute its price-to-earnings ratio? Why does a high price-to-earnings ratio

indicate that the stock market thinks the firm will grow?

Answer: Price-to-earnings ratio (P/E) is a simple ratio that measures the price of a company’s

stock against its earnings. Generally, the higher a company’s price-to-earnings ratio, the greater

the market thinks it will grow.

What is the purpose of a balance sheet?

Answer: A balance sheet is a snapshot of a company’s assets, liabilities, and owners’ equity at a

specific point in time (usually year-end).

What are the major categories of assets and liabilities on a balance sheet? Briefly explain each

category.

Answer: The major categories of assets listed on a balance sheet are the following:

Current assets include cash plus items that are readily convertible to cash, such as accounts

receivable, marketable securities, and inventories.Fixed assets are assets used over a longer time frame, such as real estate, buildings, equipment,

and furniture.

Other assets are miscellaneous assets, including accumulated goodwill.

The major categories of liabilities listed on a balance sheet are the following:

Current liabilities include obligations that are payable within a year, including accounts payable,

accrued expenses, and the current portion of long-term debt.

Long-term liabilities include notes or loans that are repayable beyond one year, including

liabilities associated with purchasing real estate, buildings, and equipment.

How does a firm compute its current ratio? Is this a relatively important or unimportant financial

ratio? Explain your answer.

Answer: A company’s current ratio is its current assets divided by its current liabilities. Current

ratio is an important financial ratio. It provides the managers of a firm another picture of the

relationship between its current assets and its current liabilities. This relationship provides an

indication of whether a firm can pay its short-term liabilities.

What is the purpose of a statement of cash flows?

Answer: The statement of cash flows summarizes the changes in a firm’s cash position for a

specified period of time and details why the change occurred. The statement of cash flows is

similar to a month-end bank statement. It reveals how much cash is on hand at the end of the

month as well as how the cash was acquired and spent during the month.

What are the three separate categories of activities that are reflected on a firm’s statement of cash

flows? Briefly explain the importance of each activity.

Answer: The statement of cash flows is divided into three separate activities: operating activities,

investing activities, and financing activities. These activities are explained below:

Operating activities include net income (or loss), depreciation, and changes in current assets and

current liabilities other than cash and short-term debt.Investing activities include the purchase, sale, or investment in fixed assets, such as real estate,

equipment, and buildings.

Financing activities include cash raised during the period by borrowing money or selling stock

and/or cash used during the period by paying dividends, buying back outstanding stock, or

buying back outstanding bonds.

What is the purpose of financial ratios? Why are financial ratios particularly useful in helping a

firm interpret its financial statements?

Answer: Financial ratios depict relationships between items on a firm’s financial statements.

They are used for three purposes: (1) to depict relationships between items on a firm’s financial

statements; (2) to discern whether a firm is meeting its financial objectives and how it stacks up

against industry peers; and (3) to assess trends. The most practical way to interpret or make sense

of a firm’s historical financial statement is through ratio analysis. Table 8-4 in the textbook

provides a summary of the ratios used to evaluate New Venture Fitness Drinks during the time

period covered by the statements. The ratios are divided into profitability ratios, liquidity ratios,

and overall financial stability ratios. These ratios provide a means of interpreting the historical

financial statements for New Venture Fitness Drinks and provide a starting point for forecasting

the firm’s financial performance and capabilities for the future.

What is the purpose of an assumptions sheet?

Answer: Completely new firms typically base their forecasts on a good-faith estimate of sales

and on industry averages (based on a percentage of sales) or the experiences of similar start-ups

for cost of goods sold and other expenses. As a result, a completely new firm’s forecast should

be preceded in its business plan by an explanation of the sources of the numbers for the forecast

and the assumptions used to generate them. This explanation is called an assumptions sheet.

Why is a firm’s sales forecast the basis for most of its other forecasts?

Answer: Because as a firm’s sales go up, its variable expenses typically go up in a proportionate

manner.

What is meant by the percent-of-sales method as it relates to forecasts?

Answer: Once a firm has completed its sales forecast, it must forecast its cost of sales (or cost of

goods sold) and the other items on its income statement. The most common way to do this is to

use the percent-of-sales method, which is a method for expressing each expense item as a percentage of sales