When you are a small business, every decision to grow your activity must be carefully assessed. Today we are sharing our secret expansion planning tool.

With 5 people and a turnover around the £150K mark, CookiesHQ is a small business, but we have been growing steadily for the past 3 years. In the past year alone, we have grown from a team of 2 to a team of 5 and we are looking to recruit again.

Expanding your business is exciting, but it can also be quite daunting. Especially when it comes to hiring people. All of a sudden, you have the responsibility of making sure that you can provide an income to people other than yourself at the end of the month. It is one thing to be a freelance, it is quite another to become an employer.

In order to facilitate our decision-making process, Nic and I put together a spreadsheet, that shows what we can or cannot afford. It summarises our business operating costs, revenue and profit, and allows us to make forecast with different scenarios. Let me explain in more details.

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Staff & admin costs

Please note that all the figures entered in the spreadsheet are only examples!

We’ve separated staff costs, admin costs and benefits. All should be entered as yearly costs. They don’t need to be accurate to the penny for the purpose of this spreadsheet, but obviously the more accurate they are, the better.

Staff costs

Your own income should include salary and dividends if you take any.
For your employees, you need to include salary and PAYE/NI taxes to get a true reflection of what they cost to the business.

Admin costs

They include all the business regular expenses, such as softwares, phone bills, bank charges, stationery, childcare vouchers etc.
We’ve separated the office rent, simply because we recently looked at whether it would make sense to rent a larger office. But you can add it to the other admin expenses if it suits you better.

If you don’t know exactly how much you’re spending every month, simply take a quick look at your books (we use Freeagent, which is really good for reports). See what you’ve spent in the last 6 to 9 months, and you should be able to easily work out your average monthly expenditures. Again, it doesn’t need to be accurate to the penny, but try to be as accurate as possible.

Benefits

We have also separated our benefits (life cover, income protection and pension contributions) and the benefits we offer to our employees (life cover and pension contributions). The main reasons for this being that 1. we’ve only recently set up these benefits and 2. we are looking at increasing our own pension contributions, but don’t want it to be too much of a strain for the business. It is all about priorities! You can very well include them in your admin costs.

Business Operating Cost

Once you have added all your costs, it is time to work out how much you are spending per year, month and day. Why? To work out your break-even point.

At this point, we have also added lines to calculate the difference between your current yearly/monthly/daily costs and your projected yearly/monthly/daily costs which becomes useful when you play with different scenarios. More on this a bit later.

Work & rates

Now that you’ve worked out exactly how much you spend every day/month/year, it is time to calculate how much money you can and should make.

We have 2 main sources of income: app development and support work. Because the former represents 95% of our revenue, so we’ve chosen to ignore the latter in our spreadsheet.

The key for us is to know how many projects we will be working on at the same time. We have 3 devs, and because project management and QA is included in our day rate, we just need to try and keep each dev busy at all times.

At this point, it is important to be realistic. Because we don’t do much support work, it is unrealistic to think that all our devs will be busy with client work at all times. It doesn’t mean they spend days twiddling their thumbs. They work on support tasks, internal projects or take time to play with new technologies.

Anyway, back to our spreadsheet. A reasonable velocity for CookiesHQ is between 1.5 and 2, which means we aim to always have 2 projects running at the same time. Based on that, it is easy to work out how much we invoice every day: day rate x number of projects.

But you might need to adapt the spreadsheet according to your business and revenue streams.

Financial situation

This is where it gets serious. You’ve listed all your costs and worked out your revenue. So you can calculate your profit and make sure that you are actually making money.

We also like to see what our after-tax profit will be, because we wouldn’t want to be in a position where we cannot pay the taxman at the end of the year, would we?

Easy as pie!

Financial forecast

And this is where it gets interesting: financial forecast for the next 3, 6, 9 and 12 months. Obviously the spreadsheet assumes that your situation won’t change within this timeframe, although it will. But it is basically telling you: if nothing changes, this is what will be in your bank account in X months time.

It also helps you to assess how sustainable a loss is. We are comfortable taking a risk if we’re still in a good financial situation in 6 or 9 months time, even if there’s a small loss involved. Why? Because if you do take that risk, there’s a good chance that you will work extra hard to increase your revenue and that it will pay off in the end. However, you don’t want to put yourself in a position where you go under after 3 months.

Play with different scenarios

You can now use the spreadsheet to play with different scenarios. There are 2 types of scenarios that we play with: optimistic/pessimistic situations and new business costs.

Optimistic & pessimistic scenarios

These only involve the amount of work that we expect to bring in.

By nature, Nic and I tend to be quite pessimistic people, or rather we like to be prepared for the worst-case scenario. Column F answers the question ‘How bad would it be if we only had 1 project for 3 devs? How much money would we lose? With the money we currently have in our bank account, at what point would we go under?’.
The probability that it is going to happen is very slim, but at least we are aware of the consequences if we don’t work hard enough to bring in new clients.

The optimistic scenario in column E, on the other hand, is less useful in terms of business planning, simply because it is never a problem to have more money than anticipated (at least it is not for us). However, it is a great psychological incentive to get your butt in gear and find more work!

New business costs

We recently faced 2 different situations when we used our lovely spreadsheet: the first one was whether we should hire a new employee, and the second one whether we should move into a new larger office. But you can use for any other situation where you need to assess how big of an impact it would have on your business.

When you want to play with a new scenario, copy column D into a new column and just change all the numbers you need to change. Let’s have a look at our 2 scenarios.

New employee

Hiring a new employee means you can potentially work on more projects, but it also increases significantly your monthly expenses when you are a small business.

To see if you can afford it, just add a new employee with the salary you envisage (you can play with different levels of salary too), don’t forget to increase your admin and benefits costs if relevant, and have a look at the impact it has on your revenue, profit and forecast.

This is what we’ve done in column G:
– employee 4 with a yearly salary of £20,000 (including taxes)
– an increase of £2,000 in admin costs
– an additional £600 in benefits

So all in all, this new employee would cost us £101.35 per day, and if none of the other factors change, i.e. if we still have a velocity of 1.5 projects, our monthly profit after tax goes down from £2007.85 to £538.85.
The good news is that we still make a profit. The not-so-good news is that it does have a big impact on our business.
But hopefully this new employee means that we can increase our velocity. You’ll see that if you change the velocity from 1.5 to 2, our profit after tax increases to £4,162.60.
Now the question is: what will this employee bring to your business?

New office

Let’s have a look at our second scenario: moving into a new larger office.

In column H, we’ve increased our rent from £800 to £1,500 a month. The impact on the business is obviously not as important as with the previous scenario. It is still reduces your profit after tax by £546, and contrary to hiring a new employee, it is less likely to have a direct impact on the amount of work you can bring in.

In conclusion

This is only a tool, it has its limitations and certainly won’t give you all the answers. But we found it very useful to plan our expansion and assess the risks involved in significant changes to our business.
What do you think of it?
How do you do your financial planning and forecast? Any tools you would recommend?

Photo by reynermedia on Flickr