Financial Feasibility - Can You Afford to Do It?

Ag-Alternatives is a series of factsheets designed to help you evaluate the feasibility of a new agricultural or rural based business. Worksheets in each factsheet help you personalize the information.

This factsheet shows you how to analyse the financial side of your new enterprise. In order to analyse the new enterprise you need to answer the following questions:

• When do your expenses occur?
• When do you expect revenue?
• Will you need extra funds to cover operating expenses or capital purchases?

Note: Income is different than sales. Income is when you receive the money from the sales you have already made.

The cash flow projection tells you how much debt the new enterprise can afford. A cash flow projection is an indispensable document in a loan proposal. Some sources of credit are described at the end of this factsheet.

Cash Flow Projection

A cash flow projection is a summary of the amount of cash flowing into and out of the business over a given period of time, generally one year. It doesn't include non-cash income, such as gain in value of assets, or non-cash expenses, such as depreciation. Monthly or quarterly cash flow statements show the timing of cash flow into and out of the business. This is critical in many agricultural and tourism based businesses as the income stream is often seasonal.

Prepare a cash flow projection for at least the first three years of the proposed new business. This takes you from the initial start up period, when you purchase extra supplies and equipment, through to when the income starts coming in. The projection for the third year usually assumes your business has achieved the sales targets you selected from your market research. Think of the third year projection as a typical future year.

If your new venture will not generate a revenue in the first year you will want to extend the cash flow projection out to five, or even seven years. If you're considering saskatoon berries, for example, fruit production doesn't start until the third or fourth year after planting and the plants don't reach full production until at least six years after planting.

There are two ways to prepare a cash flow projection. The first method is called a whole farm cash flow. Use this type of cash flow projection when the current farm business is being altered or replaced by the new venture. This allows you to assess if the new venture will generate enough income to cover family living costs, loan repayments, etc.

The second type of cash flow projection is based only on the new enterprise. This allows you to examine whether the new enterprise can "stand on its own". You can also assess whether it will make a positive contribution to your family income. Using the enterprise cash flow projection allows you to compare two or more potential new enterprises.

The following chart shows what types of things should be included in each of these cash flow projections.

	Enterprise-based	Whole Farm
Cash Inflow
Cash receipts	from the new enterprise only	all farm cash receipts plus receipts from the new enterprise
New loans	loans for new equipment and facilities	new loans for the current farm business loans for new equipment and facilities
Sale of assets	assets owned by the new business only e.g. a truck traded in on a larger one	sales of machinery, land, and livestock no longer needed as a result of the change(s)
Non-farm income	not included	included
Owner's contributions	included	included
Cash Outflow
Cash expenses	for the new enterprise only	for the current farm business and for the new enterprise
Capital purchases	equipment, facilities and land for the new enterprise only	machinery, land, livestock, etc. for the current farm business plus equipment and facilities for the new enterprise
Debt payments	for the new enterprise only	for all loans
Owner's withdrawls	not included	included

Which Cash Flow Projection Should I Use?
Preparing the enterprise-based cash flow projection first is a good way to ensure that you have included all of the expenses that are part of starting a new venture. You will be able to fill in many of these anticipated expenses as you are doing your research.

A completed whole farm cash flow projection shows how the new enterprise fits with the existing farm business and your family living needs. Ideally, the new enterprise will bring in income at times when the existing business is slow.

Example:
A sample worksheet for an Enterprise Cash Flow projection is shown below. The Gideons are considering opening a bed and breakfast enterprise. This projection shows the first two years of the new enterprise, as well as an average future year after the bed and breakfast enterprise becomes established.

A sample worksheet for a Whole Farm Cash Flow Projection is also shown below. This cash flow projection shows the existing cattle operation combined with the first two years of the bed and breakfast enterprise. It also includes an average future year.

Note: For simplicity, these sample worksheets are done on a yearly basis. It's recommended that you use a monthly cash flow projection to anticipate the fluctuations in cash inflows and outflows. You can add extra columns to worksheets as needed. A computer spreadsheet program works well for doing cash flow projections. You can add columns, make changes and recalculate the entire projection instantly. Once you have the basic outline saved, you can reuse it.

A computerized worksheet example is available on Alberta Agriculture's website. Search for Agricultural Business Analyzer.

Adapt Worksheet 1: Enterprise-based Cash Flow and Worksheet 2: Whole Farm Cash Flow to meet your own situation. Make copies of the worksheets for the future years. The following examples and the description of the sections in a cash flow projection will assist you.

Gideon - Bed and Breakfast Enterprise - Cash Flow Projection
Cash Inflow	Year 1	Year 2	Average Future Year
Cash receipts
Bed and breakfast revenue	6,960	10,440	13,920
Total cash receipts	6,960	10,440	13,920
Sale of assets
Surplus machinery, real estate or other	0	0	0
Money borrowed for capital purchases
New refrigerator	3,000	0	0
Owner's contributions
Cash from personal accounts	500
Total inflow	10,460	10,440	13,920
Cash Outflow
Cash expenses
Bed and breakfast start-up costs (decorating and supplies)	5,000
Operating costs	3,220
Total cash expenses	8,220	4,176	5,568
Capital purchases
Real estate and buildings	0	0	0
Equipment - new refrigerator	3,000	0	0
Debt payments
New refrigerator	730	730
Owner's withdrawls	0	0	3,000
Total outflow	11,950	4,906	8,568
Cash surplus or deficit	(1,490)	5,634	5,352
Change in business bank balance	0	100	0

Gideon - Whole Farm Cash Flow Projection
Cash Inflow	Year 1	Year 2	Average Future
Cash receipts
Cattle sales	146,800	156,400	166,000
Bed and breakfast revenues	6,960	10,440	13,920
Total cash receipts	153,760	166,840	179,920
Sale of assets
Surplus machinery, real estate or other
Money borrowed for capital purchases
Farm
Bed and breakfast, new refrigerator	3,000
Non-farm income
Margaret's job	14,300	14,600	15,000
Additional investment by owners
Cash from personal accounts	500	0	0
Total inflow	171,560	181,440	194,920
Cash Outflow
Cash expenses
Cattle	95,400	102,500	109,600
Bed and breakfast	8,220	4,176	5,568
Total cash expenses	103,620	106,676	115,168
Capital purchases
Farm machinery and equipment	0	0	0
Livestock	0	0	0
Real Estate and buildings	0	0	0
Other - new refrigerator	3,000	0	0
Debt payments
Cattle loans	26,500	26,500	26,500
Bed and breakfast, refrigerator loan	3,000
Owner's withdrawls
Family living expenses	42,000	42,000	42,000
Total outflow	175,850	175,906	188,668
Cash surplus or deficit	(4,290)	5,634	6,252
Change in business bank balance	0	100	0

Sections in a Cash Flow Projection

Cash Inflow
Cash inflows are all monies coming into the business and household. For the new enterprise, these include sales, fees charged, GST refunds, sale of assets, new bank loans and cash transferred from the owners' savings.

Farm cash receipts, off-farm income, new bank loans, cash taken from personal savings, gifts and other non-business income are all considered cash in-flow for the whole farm cash flow projection.

Note: Non-cash items such as changes in inventory or increases in accounts receivable are not included in a cash flow projection.

Cash Receipts
Cash receipts include all cash income from the business such as sales, fees charged, GST refunds and interest earned.

The whole farm cash flow projection includes receipts from both the new enterprise and all current enterprises.

Example:
The Gideons projected a gradual increase in receipts for both the existing cattle operation and the new bed and breakfast enterprise. In year one, they estimated bed and breakfast cash receipts would be $6,960, half of the expected value of $13,920 for an average future year. In year two, they projected bed and breakfast receipts of $10,440, three quarters of the average future year receipts. The Gideons assumed the bed and breakfast enterprise would be well-established by the third year.

Sale of Assets
On the whole farm cash flow projection, list all expected sales of capital items such as machinery or vehicles. Often one part of the existing business is discontinued and any surplus equipment sold in year one is used to help finance the new enterprise. Sales of real estate usually takes longer so you may want to include this type of asset sale in year two or later. Don't include sales of items already accounted for in the cash receipts.

On an enterprise cash flow projection this section will likely be left blank as asset sales are rare for a new enterprise in the early years. If the enterprise owns a piece of equipment or vehicle that is traded in on a replacement item, the value of the trade-in is recorded here.

Loans for Capital Purchases
If you plan to borrow money for any capital items, enter the total loan amount as a cash inflow on the enterprise cash flow projection.

If you are preparing a whole farm cash flow, you also want to include any new loans for items to be purchased by the farm business.

Example:
The Gideons plan to borrow $3,000 for a new, larger refrigerator for the bed and breakfast business. The total loan amount is entered as a cash inflow in year one. No other capital purchases are projected for future years.

Non-farm Income
Non-farm sources of income include off-farm jobs (net amount), inheritances, gifts, interest on investments, rental income from non-farm properties, etc. List the appropriate amounts for each year. If you wish you can include an estimate of future wage or salary increases for off-farm jobs.

Example:
Margaret Gideon's off-farm job provides an income of $14,300. Modest salary increases were projected for future years. No other non-farm income was anticipated.

Cash from Personal Accounts
Calculate how much of your money is spent for new business expenses. Include the amount you plan to spend on capital items.

Many new enterprises depend mainly on a family's savings in the developmental years. Potential lenders won't consider providing financing for your new venture if you aren't willing to use your own savings too. The most desirable approach for the business is if you can contribute money as it's needed throughout the first few years. Otherwise you might use up all of your funds at the start and then run out just when the business is getting rolling.

Total Cash Inflow
Total all cash inflows in each column. Enter the amount for each month or year, where indicated.

Cash Outflow
Cash outflows are all monies spent during the year by the business. The whole farm cash flow projection includes expenses for both current and new enterprises, as well as family living expenses.

Cash Expenses
Include only business expenses in this section. These will include wages, utilities, supplies and cost of goods sold.

All family and household expenses are included in a whole farm cash flow projection under the Owners Withdrawal or the Family Living Expenses section. Record interest expenses in the Debt Payments section. If you plan to grow your business over several years cash expenses will be lower in years one and two than in the average future year.

Example:
The Gideons determined that the bed and breakfast enterprise would have an initial cost of $5,000. This one-time expense would pay for a supply of towels and bedding, as well as some redecorating. They then projected first year operating expenses of $3,220. As the bed and breakfast enterprise attracted more clients these operating expenses would increase to $5,568 for the average future year.

The whole farm cash flow projection shows that they also projected a gradual increase in cattle expenses from $95,400 in year one to $109,600 in the average future year.

Capital Purchases
List the full price for each capital purchase. Year one or year two will probably have most of the capital purchases for the new enterprise. The number and dollar value of new purchases shown in the Cash outflow section must equal the number and dollar values in the Cash inflow section. If money is borrowed to buy an asset, enter the purchase price in the year in which the debt is incurred. Remember to include purchases for the current enterprise when preparing the whole farm cash flow projection.

Debt Payments
Enter the total annual debt payments, including both principal and interest, on money borrowed to purchase capital items for the new enterprise. You can estimate the amount of these total annual payments by using an amortization table or a loan calculator program on your computer. An amortization table, step by step instructions and an example follow.

Determining Annual Payment per $1,000 of Debt
Sample Amortization Table - Total Annual Payment per $1,000 Debt (based on monthly payments)

Repayment Period	Interest Rate (per cent)
(years)	6	8	10	12
3	365.16	376.08	387.24	398.64
5	232.08	243.36	255	267
7	175.32	187.08	199.32	211.92
10	133.32	145.68	158.64	172.2
15	101.28	144.72	129	144.12
20	77.4	100.44	115.92	132.24
25	72	92.64	109.08	126.48
30	72	88.08	105.36	123.48

1.	Find the row indicating the interest rate you are likely to pay. Consult commercial banks and financial sections of newspapers and magazines for current and projected interest rates.
2.	Run your finger across to the column showing the loan. For example, real estate loans are likely to be extended for 10 to 30 years and equipment loans for 1 to 10 years. Determine the loan life for each specific purchase.
3.	Find the number where interest rate and repayment period intersect. This is the total annual payment required to service a debt amount of $1,000, if payments are made monthly.
4.	To determine the annual payments required to service your loan, multiply the figure on the chart by the number of thousands of dollars indicated by "Money Borrowed" under Cash Inflows. Enter the appropriate amount for each year.

Example:
The Gideons plan to borrow $3,000 for the refrigerator. On the Amortization table Earl looked up a five year loan at 8 per cent interest. He multiplied the $243.36 annual payment per $1,000 borrowed by three and projected that he would pay about $730 per year in payments on the refrigerator.

On the whole farm cash flow projection you need to list the total debt payments to be made each year for all existing loans and those for the new venture. Don't forget to include any new farm loans that are required. These existing loans may include a farm mortgage, machinery and equipment loans, as well as family car loans.

Owner's Withdrawal or Family Living Expenses
These include all household expenses such as groceries, clothing, vacations and income tax payments. For a whole farm cash flow projection the owner's withdrawls may equal the family living expenses.

Total Cash Outflow
Total all cash outflows in each column. Enter the amount for each month or year where indicated.

Summary of Cash Flow Projection
Once you have compiled all the cash flow numbers in the worksheet it's time to calculate whether you have a cash surplus or a cash deficit. This tells you whether the business can meet all of its financial obligations. Complete the following equation.

Total cash inflow - Total cash outflow = Cash surplus (if this amount is positive) or Cash deficit (if this amount is negative)

When there's a cash deficit, you need to use cash from your bank account or borrow money from your operating loan (or both) to pay the expenses. This decreases your bank balance and/or increases your operating loan balance by the amount of the cash deficit.

When you have a cash surplus, you are able to use this amount to repay part of your operating loan or to increase your bank balance.

Example:
On both the Enterprise Cash Flow and the Whole Farm Cash Flow, the Gideons bank balance increased by $100 at year 2.

Evaluating Your Cash Flow

Once you've completed cash flow projections for your proposed new business (Worksheet 1 and 2), analyse your projections.

The following steps help you analyse whether there will be adequate cash flow from the new enterprise or the combination of the existing business with a new enterprise. If not, some suggestions are outlined on how to work through cash flow deficit periods.

Step 1
Is the total cash flow for the year positive? If yes, proceed to Step 2.

If not, your business requires more financing than is currently available. Your lender may not want to provide an operating loan to a new business venture as you could have difficulty repaying it in full during the year. If you want to proceed with the new enterprise, you will need to invest some of your savings or obtain additional loans.

Example:
If the business has an extended start-up period (like Saskatoon berries), the annual cash flow will be negative for several years. You need to consider whether the large initial investment will be repaid by positive cash flow in later years.

Step 2
Examine the cash surplus or deficit for each month. Wherever there's a deficit you will need money in your bank account to cover these outflows. If there's not enough in the account, you will need to use your operating loan to cover the shortfall.

Note: An operating loan is a flexible loan that allows you to bridge temporary income gaps. You only borrow what you need, when you need it (subject to the loan limit). You can repay all or part of it at any time. By using your operating loan only when you need it you can minimize your interest charges.

If you have a deficit for several months in a row you will quickly increase your operating loan to its limit.

On Worksheet 1 and 2 we've included two rows at the bottom of the worksheet to keep track of your bank balances and operating loan.

Now is the time to determine if the cash outflows for the new enterprise occur at the same time as those of the existing business. If this occurs you may encounter a severe cash flow shortage and you may even exceed your credit limit.

Step 3
Look at the changes in your operating loan balance from month to month. Identify which month has the highest (projected) balance. This amount is the size of operating loan you need for the year. If you are unable to get an operating loan of this size, then you need to contribute extra money into the new enterprise to cover these outflows.

Step 4
Ensure the operating loan balance returns to zero by the end of the year (or by the end of the loan period). If not, review how your funds are being used. For example, cash in the bank and income from the operation should be used to pay operating expenses first, with the operating loan used to cover any temporary cash deficits. Capital purchases should be made only with term bank loans for personal contributions, never with the operating loan.

Step 5
Once you have a positive cash flow projection for the year that is in line with available funds, you are ready to proceed to the next stage. But don't forget to check the cash flow projection regularly once you start your new business to ensure you are still on the right track.

Obtaining Financing

Chances are you will need to borrow money to start your new enterprise. It's important to arrange for adequate financing. It may be tempting to use the farm business operating loan, but this could leave both enterprises short of cash.

It may not be easy to get a start-up loan from a commercial lender as they may not understand your new venture. For example, a loan application to develop a bed and breakfast inn or a farm tour business may be rejected because it fails to meet the lender's definition of an agricultural enterprise. For a list of lenders who provide debt financing to agriculture related businesses refer to the Sources of Financing section.

Approaching a Lender
There are many ways to get the funds you need to start the new enterprise. The most common sources of funding for small businesses are family and friends. Many people draw from their savings, use a credit card, apply for a personal loan or a line of credit. Suppliers can provide short term loans by allowing longer time-lines on repayment.

As you approach potential lenders, make sure you can provide the information they need to reach a decision. Any potential lender, whether a local private investor, a local bank officer or your aunt, will want to know the answers to the following questions:

1.	What is the business idea? Provide information to show there's a market and how the business will turn a profit.
2.	How much money do you need to finance the new enterprise? What sources of financing are you planning to use?
3.	Can you repay the money, and on what schedule?
4.	Will you be able to repay the money if the business doesn't do as well as you had planned?
5.	What's your past performance as a manager or profit-maker, and how have you managed borrowed money in the past?

Sources of Financing
Below is a list of agencies and businesses that offer debt financing for agri-food businesses. A brief description of the types of loans they offer and their typical customer is included. For more information contact the telephone numbers or websites listed.

Farm Credit Canada (FCC)
Loans are available for on-farm diversification projects. Typical FCC customers include: individual farmers, beginning farmers, part-time farmers, partnerships, companies and cooperatives. Repayment ability and sound management skills must be demonstrated.

Contact:
Local FCC field office or call 1-888-332-3301
Website: http://www.fcc-sca.ca

Agriculture Financial Services Corporation (AFSC)
A new or established agriculture or food processing business should contact AFSC. Loans are available for businesses that add value to agricultural commodities such as processing, manufacturing, marketing or packaging.

AFSC Commercial is a division of Agriculture Financial Services Corporation. It offers a unique portfolio of innovative financing options to help meet the capital needs of the rapidly expanding value-added and agri-food industry.

Contact:
AFSC
4910- 52 Street
Camrose, Alberta T4V 4E8
Telephone: 1-800-396-0215
Fax: (780) 679-1311
http://www.afsc.ca

Western Economic Diversification (WD)
A federal department (WD), is committed to helping Western Canada's small and medium-sized businesses grow and create jobs.

Contact:
Western Economic Diversification
Suite 1500, Canada Place
9700 Jasper Avenue
Edmonton, Alberta T5J 4H7
Telephone: (780) 495-4164

Suite 300, 639-5th Avenue SW
Calgary, Alberta T2P 0M9
Telephone: (403) 292-5458
Toll Free: 1-888-338-9378
Website: http://www.wd.gc.ca

Business Development Bank of Canada (BDC)
BDC's mission is to help create and develop Canadian small and medium sized businesses through timely and relevant financial and consulting services.

Contact:
Toll Free: 1-877-232-2269
Website: http://www.bdc.ca

AVAC
AVAC's mission is the help accelerate the growth of agrivalue in Alberta. AVAC inverts in innovative ideas that add value to agricultural commodities through coaching, knowledge contacts and financial resources.

Contact:
AVAC Ltd
Suite 220, 6815-8 Street NE
Calgary, Alberta T2E 7H7
Telephone: (403) 274-2774
Fax: (403) 274-0101
Website: http://www.avacltd.com

Alberta Womens Enterprise Initiative Association (AWEIA)
AWEIA provides loans to businesses owned by women (at least 51%). They provide loans for start up, expansion and or purchase of an existing business. The maximum loan amount is $100,000.

Contact:
AWEIA information line at 1-800-713-3558
Website: http://www.aweia.ab.ca

Summary

The completion of a cash flow projection helps you determine the amount of capital you need to finance the new business. It also shows the repayment ability of your business if you plan to borrow money. Financing a non-traditional enterprise can be difficult. Shop around for financing so you know your options. Be sure you can answer the five questions listed on page 7 before you approach a lender.

Reference
The Ag-Alternatives factsheets have been adapted with permission from: Farming Alternatives - A Guide to Evaluating the Feasibility of new Farm-Based Enterprises (NRAES-32, October 1988, ISBN 0-935817-14-X). This publication was a project of the Farming Alternatives Program, Cornell University, Warren Hall, Ithaca, NY 14853 (607) 255-9832; and Natural Resource, Agriculture and Engineering Service (NRAES), Cornell University, 152 Riley-Robb Hall, Ithaca, New York (607) 255-7654.

For More Information

Ag-Alternatives Series:

Personal and Family Considerations: Where do You Want to Be?( Agdex 1834-10)
Identifying Alternatives: What are the Possibilities? (Agdex 811-2)
Marketing: Will it Sell? (Agdex 848-5)
Production Requirements: Do You Have the Resources? (Agdex 811-4)
Financial Feasibility: Can You Afford to Do It? (Agdex 811-3) (current document)
Profitability: Will it Make Money? (Agdex 811-6)
Decision Making: Will You Start a New Enterprise? (Agdex 811-5)

For these factsheets and other publications, call Alberta Agriculture, Food and Rural Development's Publications Office at 1-800-292-5697.

Websites:

Alberta Agriculture, Food and Rural Development's website at http://www.agric.gov.ab.ca

Diversification information at http://www.agric.gov.ab.ca/diversify

Phone:
To access specialists, information and services within Alberta Agriculture, Food and Rural Development, contact the Alberta Ag-Info Centre at 1-866-882-7677.

Source: Agdex 811-3 Revised April 2003.