Overcoming Financial Documentation Challenges: Cash Flow Statements for Entrepreneurs

Entrepreneurs often encounter hurdles when asked to provide financial documentation such as cash flow statements, particularly when applying for a bank account or loan. This challenge becomes even more daunting for small businesses or sole traders who operate with limited resources, irregular income, or a lack of formal bookkeeping practices. One common requirement is to present records spanning months to years (usually three to five years) that may include financial projections.

In this edition of Tech-Vantage Digital, we focus on how entrepreneurs can effectively navigate these challenges, using simple tools and methods to create cash flow statements that meet banking requirements.

Why Cash Flow Statements Matter

Cash flow statements provide a detailed view of how money moves in and out of a business over time. For banks, this document serves as a critical measure of financial stability and future viability, making it an essential part of account opening or loan applications. However, many entrepreneurs struggle with this requirement due to a lack of structured financial records. This can be particularly true for small businesses where income is sporadic and bookkeeping is done in a minimal, often informal way.

The Entrepreneurial Struggle

Entrepreneurs like Kevin, who started a small business post-pandemic with limited startup capital, often face this issue. Many small business owners operate on a shoestring budget and are primarily focused on keeping their businesses afloat, leaving little room for professional financial management. For those who work in industries where cash flow is uneven, it can be even more difficult to create a formal cash flow statement. These realities, though common, should not prevent entrepreneurs from fulfilling bank requirements.

Breaking Down the Cash Flow Statement

A cash flow statement does not need to be overly complex. Here is a simple guide to creating one, broken down into key components:

1. Revenue (Cash Inflows): This refers to all the income generated from sales or services provided. Even if revenue varies from month to month, keeping track of it is vital. For instance, documenting income in small businesses can include daily sales, consulting fees, or any other payments received.
2. Expenses (Cash Outflows): Variable Expenses: These are costs directly related to the production of goods or services, such as materials, shipping, or packaging. Fixed Expenses: These are regular costs that occur regardless of sales, like rent, utilities, and insurance.
3. Net Cash Flow: The difference between total inflows and outflows. If more money comes in than goes out, your cash flow is positive. If the opposite occurs, it is negative. A realistic cash flow statement should capture these ups and downs over time.
4. Projections: For new businesses or those without complete records, projections of future cash inflows and outflows (based on expected growth, expenses, and market conditions) can help fill gaps. Banks often accept reasonable projections as part of the financial statement.

Template for a Simple Cash Flow Statement

Below is a basic template that entrepreneurs like Kevin can use when compiling their cash flow data:

This simple format allows entrepreneurs to organize their income and expenses clearly, showing banks a financial history and projecting future viability. It is derived from the template below, which allows flexibility in tracking typical business expenses for each month. You can now input specific values for each month based on actual records or projections and attain yearly totals.

Expense Categories Explanation:

• Variable Expenses: These fluctuate with business activity (e.g., cost of goods sold, direct labor, sales commissions, shipping).
• Fixed Expenses: These remain constant regardless of business volume (e.g., rent, utilities, salaries, marketing).

Cost of Goods Sold (COGS) represents the direct costs of producing or purchasing the products that a business sells during a specific period. COGS includes expenses like materials, labor, and other costs directly related to the production of goods. It is a critical metric to understand because it directly affects the gross profit of the business.

How to Determine COGS

The general formula for COGS is:

COGS = Beginning Inventory + Purchases During the Period - Ending Inventory

Steps to Calculate COGS:

1. Determine the Beginning Inventory: This is the value of the inventory at the start of the period (e.g., July 1, 2022). If the business is newly established, the beginning inventory may be zero.
2. Add Purchases Made During the Period: This includes all the costs incurred to produce or purchase additional goods during the period. This may include: Raw materials. Components or parts used in production. Direct labor costs involved in making the product. Manufacturing or shipping costs.
3. Subtract Ending Inventory: This is the value of any inventory that remains unsold at the end of the period (e.g., June 30, 2023). The ending inventory can be determined by conducting a physical inventory count or through inventory management software.

Example Calculation:

Let us say for July 2022 - June 2023:

• Beginning Inventory (July 1, 2022) = $2,000
• Purchases of raw materials, components, and other goods during the year = $20,000
• Ending Inventory (June 30, 2023) = $5,000

Using the formula:

COGS = $2,000 (Beginning Inventory) + $20,000 (Purchases) - $5,000 (Ending Inventory)

COGS = $17,000

In this case, the COGS for the period would be $17,000.

Components Included in COGS:

• Raw Materials: The cost of materials used to create the product.
• Direct Labor: Wages for employees directly involved in the production of goods.
• Manufacturing Overhead: Expenses such as utilities, factory rent, and machinery maintenance, specifically tied to production.
• Shipping Costs: If shipping is directly involved in getting products to customers, it can be included in COGS.
• Storage Costs (for goods in production): This depends on whether storage is directly tied to production.

COGS and Service-Based Businesses:

For service-based businesses (e.g., consulting), there may not be a traditional "COGS" as there is no physical product, but direct labor costs involved in delivering the service could be factored in as an equivalent to COGS.

COGS and Financial Reporting:

• Revenue - COGS = Gross Profit
• Keeping accurate track of COGS is important as it influences profitability, tax calculations, and overall business financial health.

In summary, COGS gives a direct understanding of how much it costs your business to produce or acquire the goods sold, helping to assess profit margins and price products correctly.

Leveraging Technology

Entrepreneurs who find it challenging to track finances can benefit from using simple accounting software such as QuickBooks or Wave, which provide pre-built cash flow templates and automatically generate reports. For those who prefer minimal tech, even basic tools like Google Sheets or Microsoft Excel can serve the purpose of recording transactions and projecting future growth.

Practical Steps for Entrepreneurs

1. Gather Data Regularly: Maintain simple records of your income and expenses, even if they are irregular. The more accurate your data, the better the cash flow statement will be.
2. Categorize Expenses: Break down costs into fixed and variable categories to better understand your spending patterns.
3. Use Financial Projections: When records are incomplete, reasonable projections of future income and costs can satisfy the bank's requirements.
4. Seek Professional Guidance: If the process feels overwhelming, consider consulting a financial expert. Even short-term assistance can make a difference in establishing a solid financial foundation.

Conclusion

Many entrepreneurs like Kevin face obstacles when asked to produce a cash flow statement, but overcoming these challenges is possible with a few key steps. By simplifying their approach to record-keeping and utilizing available tools, entrepreneurs can present a clear financial picture to banks, enabling them to secure the accounts and funding they need to grow their businesses.

The core message from this edition of Tech-Vantage Digital is that you do not need to be an expert accountant to create a cash flow statement that banks will accept. With the right template, basic financial organization, and perhaps a bit of expert help, even small businesses can build the foundation they need to thrive.

Stay tuned for more actionable insights in the next edition of Tech-Vantage Digital.

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Reynold Branche Author and Publisher, Tech-Vantage Digital

About the Author

Reynold J. Branche is the author of "Search Engine Artistry" and "ChatGPT Secrets" user guides and a passionate advocate for leveraging digital tools to drive innovation. Also, is dedicated to helping professionals and organizations achieve their highest potential - rjbranche.com.