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You have received this Profit Plan Newsletter as a licensed
user of Profit Plan® -- Your Vision of Tomorrow®.
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PROFIT PLAN PLANNING TIPS - February, 2002
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February Contents:
Profit Plan Training - Feedback
Functional Cosmetics
Using
the Borderline Dropdown Panel
Using
the Color Dropdown Panel
What is my REAL Break-Even Sales Requirement?
Ordering the Profit Plan v2001 Upgrade
Topics Coming in the March Issue
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Profit Plan Training Classes
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Thanks to all of you who so kindly responded to our web-site training
page survey. If you
didn't have a chance to provide your own feedback, please feel free to
do so now.
As a result of the survey and in deference to our many CPA
and financial advisory clients,
(who are always swamped in the Spring), classes are scheduled for
late June. A formal mailing
in April will provide all the details.
What a great way to get away from the noise for awhile so we can truly focus on planning!
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Functional Cosmetics
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In Profit Plan v2001, we introduced two toolbar buttons and adjacent
drop-down panels
that have proved quite handy but may be unfamiliar to many of you.
Even if you noticed
them, you might have thought of their usage as purely cosmetic. But
we would like you to
think of them as productivity tools instead. We'll show you why in
the two topics below.
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Using the Borderline Dropdown Panel In earlier editions of Profit Plan, you could use the Borders command on the Format menu to select and set different types and colors of lines to use for single and double underlines above and below (or around) subtotals, key accounts, etc. In Profit Plan v2001, this same Borders dialog is still available, but more quickly selected by clicking the square Borders button on the Formatting toolbar. In addition, the small downward pointing arrow to the right of the button opens a "quick-pick" panel to quickly handle many of the common choices found in financial usage. For example, to highlight an important account that seems buried in a sea of less important ones, simply click the account name (to highlight the row it is on). Then click the down-arrow beside the Borders button and select the "Top + Bottom" border pattern. Now the account is accented by two lines to make it stand out for all to see. Alternatively, to clear unwanted border lines, select the area where they occur and apply the "Clear Borders" choice at the bottom of this list. NOTE: To quickly clear and restore the entire Assumption Sheet to default underlines, simply select the "Subtotal Underlines" option from the Format menu and then click OK! |
OK, so we can underline things for emphasis, but what about flagging potential problems? top
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Using the Color Dropdown Panel While consulting or planning, I often find it advantageous to "flag" items that need further work or explanation. A simple color code often works nicely. For example, if a number seems erroneous, I flag it in red. If I'm a bit cool about a proposition and want to ask more questions, I turn the numbers blue. Or a new project account that is not part of the standard financials might become green. Later, as questions are solved, plans solidify, and/or errors are corrected, the associated numbers go back into the "black". To use this handy method of noting issues and resolutions, simply select the number(s) in question, click the down-arrow to the right of the "A" (font) button and select a color as appropriate. For those with more elaborate needs, the "Custom" button will provide you with 48 stock colors and a "Custom Color" panel for building your own textures and hues. NOTE: For those using pre V2001 editions, you can still use color coding. But you need to open the full font dialog via the Format menu (or by pressing the [Ctrl]-T key pair) and then select a font color from within that form. |
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What Is My REAL Break-Even Sales
Requirement?
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The ideas behind "Break-Even" sales analysis are fairly straightforward.
First, one assumes
that every sale has some direct costs associated with it. These direct
costs are typically
the cost of the materials in the product, the labor to build/ship the product,
etc. After these
direct costs are deducted, the remaining contribution margin is available
to cover the fixed
costs of the operation, most notably rent, corporate staff, carrying costs
and other costs
that can not be directly associated with a unit of sales. Break-Even
sales is then defined
as the sales volume at which all these fixed costs are exactly covered
by the contribution
margin provided by those sales.
Profit Plan's interactive Break-Even Analysis form uses the firm's gross
contribution margin
(average contribution from all product lines) and your guestimates of each
General and
Administrative operating expense variability (% by which it varies with
sales) to calculate
and chart break-even sales and a break-even sensitivity grid. You
can use this form to
see what happens to the sales break-even point if fixed costs can be adjusted,
contribution
margin improved, etc. This approach works fairly well, but relies
on your ability to estimate
the % Var (percent by which a cost account varies directly with sales)
for each expense
account. Although Profit Plan's built-in Common Size Income Statement
can help you
estimate the percentages, the over-all approach to break-even analysis
in the Break-Even
report is a bit general.
So what if there was a way to let us vary the cost and sales assumptions
on the Profit Plan
Assumptions Sheets and let it tell us how far away we are from break-even
instead!
Profit Plan does provide another approach that actually uses your model
directly!
The process is a bit complicated conceptually, but is actually quite easy
to set up in your
model's Annual Assumption Sheet. We'll show you how in the following
paragraphs...
Let's assume that you carefully analyzed your firm's basic cost relationships
as you built
your model. You used the Assumption Designer to check recent relationships
between your
accounts, and have projected each account based on its apparently most
relevant driving
criteria. Now, after projecting your sales performance as best
you know how, you
find that (1) your profits are negative in some periods, and/or (2) you
really need to also
pay off your line of credit and are not sure just what you need to do to
cover it. So how
can you really find out exactly what your NEW marketing program needs to
generate in
sales to be "in the black"? Or, if you have been running
in the black, how big a sales
loss can you sustain and still break even? To find out, try this:
(1) Add a "Sales to B/E" account line in the Sales section
of your chart of accounts.
(2) Place your cursor on the first forecast period for this new "Sales
to B/E" account line.
(3) Right-click and open the Assumption Designer with "Sales
to B/E" selected. Now,
(a) Set the Assumption Type to "User
Defined". An "=" sign will appear in the Formula
box.
(b) Click the"Sales to B/E"
in the Account(s) to Use in Formula... list. A reference to it will
appear in the formula.
(c) Enter a minus sign.
(d) Click the Net Profit after Tax
account in the "Accounts to Use... " list.
(e) Click OK.
The "Sales to B/E" account you have just created is going
to show you the DIFFERENCE
between your current sales projections, and what sales would be if the
firm is to generate
exactly $0 in Net Profit. Hence, this account is the sales volume
needed to go "to Break-Even".
So, why does subtracting Net Profit from a Sales account actually calculate
the amount
of increase or decrease in Sales needed to reach zero profit (break-even)?
Well, one
of the great things about Profit Plan is that most computations are actually
accomplished
spread-sheet style. This means that the spread sheet is recalculated over
and over again
automatically until either no single number on the sheet changes by no
more than some
arbitrarily small number, or until a maximum number of computational cycles
have been
completed.
So what really happens in our model? As the first cycle begins,
"Sales to B/E" is $0,
since we just added the account, and net profit is whatever it was before;
say a ($10) loss.
The sheet is now recalculated from top to bottom and left to right.
When the "Sales to
B/E" line is reached, it is calculated as $0 - ($10) = +$10.
Next all the expense rows
are computed. Since at least Cost of Goods Sold, (and probably at
least some of the
expenses in your model) are undoubtedly related directly to sales, these
values increase
to reflect the new "Sales to B/E" value of $10. Next profit
is computed. It will now be
better than before, due to the increase of $10 in sales calculated above.
But it also has
been reduced by any change in Cost of Goods or other expenses that resulted
from that
$10 increase in sales calculated at the start of this cycle.
Now the Balance Sheet recalculation proceeds. The improvement
in profit means
that either Cash can increase, or Notes Payable can decrease. But
the Balance Sheet
section also probably has other accounts that are at least partially driven
by Sales. For
example, increased Sales increases Cost of Sales. But Cost of Sales
implies you will
generally have to replace inventory. This means you buy more stock
and this will
result in an increase in accounts payable. If the profit improvement
hasn't yet put
you in the black, you may end up borrowing to pay off the increase in payables.
And
this may increase your note at the bank! Of course the increase note
balance will
increase interest expense and this will be reflected in the Income Statement
during
the cycle #2.
Is your head swimming yet??? <<grin>>
OK, so all we have done in this first pass was to increase total sales
by the amount of
the expected loss and then compute what this would do to net profit and
the balance
sheet if the "Sales to B/E" sales increase actually occurred!
Let's assume that the $10 Sales increase resulted in a net profit improvement
of -$5
by the end of the first pass through the Income Statement. Now we
know that the
potential interest expense from increased purchasing for inventory wasn't
included in
the first cycle. When interest was first calculated, the increase
in Accounts Payable
had not yet happened! So the net profit needs to be recomputed to
include the
impacts from changes in the Balance Sheet during the first pass.
In the second cycle of calculations, the "Sales to B/E" begins
as $10. Subtracting the
net profit computed in cycle #1, "Sales to B/E" is now $10 -
($5) = $15. The Cost of
Goods Sold and some operating costs will again increase, due to this extra
$5 in
sales. Assuming the same Sales to Net Profit ratio as in first cycle,
the new net profit
increase at the end of cycle 2 might be $15 - 50%*($15 increase)= $7.50,
leaving
a shortfall of ($10) - ($7.50) = ($2.50) left to reach break-even.
As you can see, each cycle increases sales but by a smaller amount,
as the
loss reduces from cycle to cycle. Interest cost from the Balance
Sheet may also
be impacting the next cycle's profit. But eventually, we will reach
as point where
the profit change per cycle gets small enough that we no longer care.
By default, when either 10 cycles have been completed or the largest
change in any
value on the sheet from one cycle to the next is less than 0.1, Profit
Plan finally stops
recalculating. In large and complicated models, it might require
more than 10 cycles
to reach the point where the solution has actually stabilized with all
changes less than
0.1. In this case, you may need to press Ctrl-R to force yet another
full set of 10
computation cycles to begin. (When the values in the Sales to B/E
account line
stop changing, the solution has been reached and this line now shows the
incremental
sales amount needed to reach break-even in each forecast period.)
The scenario above assumed the firm initially was showing a loss for
the period.
So what happens if it was showing an initial profit instead? In this
case, the Sales to B/E
formula works to reduce sales each cycle by the amount of remaining positive
net profit.
Eventually, however, the net profit will reach $0 and the Sales to B/E
number will show by
how much sales could be REDUCED before net profits would reach zero.
CAUTION: If you try this and the net loss never seems to reach
$0, what does this
imply? The technique is sound, so if the change in sales from cycle
to cycle is not getting smaller,
then the business model itself is suspect. What this implies is that
you are going to GROW
BROKE since every $1 in sales is consuming more than the $1 to generate
it!
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Ordering the Profit Plan v2001 Upgrade
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If you are not yet using Profit Plan v2001, you owe it to yourself to
consider upgrading before
you begin next year's budget. As always, every edition is more powerful
and robust than
its predecessor, as you can see for yourself by reviewing the upgrade history
available at
our What's New
web page. An order form is available from that page.
A few of you apparently did not receive your Fall direct mail upgrade
offer. If so, please
let us know by e-mail
so we can update your mailing information in the database! Then
you
won't miss out on the discounts found on the next upgrade mailing.
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Browsing Old Newsletters
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If you want to review past issues of our Profit Plan Tips newsletter,
you can do so by
clicking this Newsletter
Index link.
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Topics in the March Issue
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In March, we will resume our exploration of the uses of "non-financial"
accounts and show
how to adjust some of our assumptions to simulate real-world physical or
economic constraints.
This will segue into a sample of how to use Profit Plan's project
and baseline planning concepts
to enhance your strategic and tactical plans.
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How to Opt-Out
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Copyright 2002 - Security Development Corp.
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