MANAGING YOUR MONEY: FINANCIAL PLANNING, BUDGETS AND ASSUMPTIONS

MANAGING YOUR MONEY: FINANCIAL PLANNING, BUDGETS AND ASSUMPTIONS

KEY LEARNING OBJECTIVES Through this session participants should: • Understand the importance of managing funds effectively by saving, investing and reinvesting the funds • Learn about the savings and investment instruments that are available in the Nigerian market • Understand how to create realistic financial budgets and how to make on-going investment decisions within organizations FATE Aspiring Entrepreneurs Programme

INTRODUCTION • Entrepreneurs must understand that many small businesses fail because of the inability of the owners to manage their funds effectively • Funds must be saved, invested and reinvested to assure profitability of operations and future capital requirements • In doing this, entrepreneurs must seek creative ways to turn over idle funds to assure future stream of capital inflows FATE Aspiring Entrepreneurs Programme

AGENDA • Discussion about the importance of managing funds effectively by saving, investing and reinvesting • Discussion about savings and investment instruments in the Nigerian market, and investment decisions in organizations • Breakout Session • Discussion about budget, types of budget and the budgeting process FATE Aspiring Entrepreneurs Programme

WHAT IS FUND MANAGEMENT? FATE Aspiring Entrepreneurs Programme

WHAT IS FUND MANAGEMENT? • Fund management has to do with the creative, efficient and effective utilization of idle or excess money. • In doing this, entrepreneurs must ensure that it will lead to profitability of operations and long term sustainability of their firms • Entrepreneurs must make decisions about how to manage excess funds after considering the following: • whether the excess fund is temporary or will be continually available • the amount and volume of other financing requirements and when they will fall due FATE Aspiring Entrepreneurs Programme

METHODS OF FUND MANAGEMENT • Entrepreneurs typically utilize a number of methods in managing their excess or idle fund. • These methods include the following: • savings • investment • reinvestment FATE Aspiring Entrepreneurs Programme

SAVINGS • Entrepreneurs must understand that having a habit of putting away a certain proportion of their profits or idle cash for future use is essential to the survival of their businesses • Entrepreneurs save for the following reasons: • to meet current and upcoming planned expenditures • as a precautionary measure against unexpected expenditures or a drop in revenues • to meet contract or regulatory requirements, such as compensating balances mandated by a loan agreement FATE Aspiring Entrepreneurs Programme

INVESTMENT • Entrepreneurs can also manage their funds effectively through investment • Entrepreneurs can invest idle or excess funds in the following ways: • profitable ventures with chances of success • money markets • others FATE Aspiring Entrepreneurs Programme

RE-INVESTMENT • Entrepreneurs can also manage their funds effectively by reinvesting the interest or proceeds generated from their investments • This can be done through the following ways: • reinvesting to finance expansion of production facilities • reinvesting to finance the introduction of new products and services • reinvesting by outright purchase of another business • For example, Agbaragu Ben can reinvest the interest from his deposit in the bank to acquire new sewing machines FATE Aspiring Entrepreneurs Programme

SAVINGS INSTRUMENTS • Entrepreneurs can utilize a number of savings instruments in the Nigerian market to manage their funds effectively. • Some of the more popular instruments are offered by commercial, merchant banks, and other traditional guild systems • They include the following: • call account • savings account • fixed deposit account • esusu • cooperative societies FATE Aspiring Entrepreneurs Programme

CALL ACCOUNT • This a savings instrument that allows entrepreneurs to put their money in the bank and recall it anytime they want. • Call accounts can be for a period of 1day, 2 days, week or 30 days. • The banks usually pay a higher interest on call accounts FATE Aspiring Entrepreneurs Programme

SAVINGS ACCOUNT • Entrepreneurs can also maintain savings accounts with their banks • As the name implies, a savings account is actually meant for people to contribute a steady stream of funds over a period of time • Entrepreneurs must realize that savings accounts are not for daily transaction of businesses • For example, the National Housing Fund demands that people save up 1.5% of their monthly basic with the Federal Mortgage Bank to enable them apply for mortgage loans. • Banks usually pay a higher rate of interest on savings accounts than on current accounts FATE Aspiring Entrepreneurs Programme

FIXED DEPOSIT ACCOUNT • Another savings instrument is the fixed deposit account • Entrepreneurs save a certain amount of funds over a fixed period usually 90 days, six months, a year, two or even five years • This fixed amount is usually allowed to accumulate interest over this period of time FATE Aspiring Entrepreneurs Programme

ESUSU • This is a traditional savings instrument utilized by entrepreneurs, artisans, market women and other small business owners • Typically, funds are saved daily, weekly or monthly and usually without any interest payment • The owners of the saved funds can get back their money at an greed period usually a month FATE Aspiring Entrepreneurs Programme

COOPERATIVE SOCIETIES • Entrepreneurs can also utilize the savings instrument offered by cooperative societies • This involves the pooling of resources together by different entrepreneurs into a significant amount for different purposes. • Some of these purposes include the following: • lending to individual members at determined interest rates • bulk purchases of products to significantly reduce cost and selling to individual members at reduced prices FATE Aspiring Entrepreneurs Programme

INVESTMENT INSTRUMENTS • There are also many investment instruments open to entrepreneurs in the Nigerian market • Some of these investment instruments include the following: • interest bearing instruments • money market funds • mutual funds • shares of privatized national companies • real estates FATE Aspiring Entrepreneurs Programme

IN-HOUSE FINANCIAL INSTRUMENTS • Entrepreneurs can also take advantage of in-house investment instruments offered by a large number of banks • Usually entrepreneurs are given certificates of deposit as soon as they invest in these instruments • The banks pay slightly higher interest rates on these in-house instruments than on normal bank accounts • There are penalties for early withdrawal • These in-house savings instruments also offer a wide range of benefits to entrepreneurs • For example, IVY account of Intercontinental Bank allows you to save as much as N100, 000 and get benefits like free accident insurance or further loan of N50,000 FATE Aspiring Entrepreneurs Programme

MONEY MARKET FUNDS • These funds pool the resources of entrepreneurs together to purchase short term securities offered by the Nigerian government and others • Some of these instruments include the following: • government treasury bills- these are obligations of the Nigerian government that mature in 90, 180 or 360 days. They are generally secure and often with low interest rates • entrepreneurs can invest in treasury bills through discount houses and their banks • government bonds and notes- these are also obligations of the Nigerian government and have maturity of more than one year.They are generally more risky than treasury bills and not attractive for short term investments • commercial papers - these are unsecured short term promissory notes issued by large corporations in the form of borrowing money from entrepreneurs. The maturity most often is between 30-60 days • this investment is unsecured and interest rate is higher than that on treasury bills FATE Aspiring Entrepreneurs Programme

MUTUAL FUND INSTRUMENTS • Mutual funds operate like money market funds but invest for entrepreneurs in stocks and bonds or a combination of the two • They can also help entrepreneurs invest their funds in certain industries or in growing companies • Mutual fund share prices are subject to market swings and entrepreneurs must be careful in their risk exposure assessment FATE Aspiring Entrepreneurs Programme

SHARES OF PRIVATIZED COMPANIES • Entrepreneurs can also invest by buying shares in the form of equity or debt in privatized national companies • These shares which are sold in multiples of hundreds and thousands at N10.00K or N15.00K can mature to become significant investments • For example, the National Council on Privatization offered and sold the shares of National Oil and Chemical Marketing Company in which government had divested to Mike Adenuga FATE Aspiring Entrepreneurs Programme

REAL ESTATE • Entrepreneurs can also make long term investments by engaging in real estate or property speculation • This can be done through building houses or simply buying up houses • Entrepreneurs must understand that this form of investment means tying down capital for a long period • The advantage of investing in real estate is that quite unlike other investment instruments, the value of properties appreciate over time FATE Aspiring Entrepreneurs Programme

INVESTMENT DECISION IN ORGANIZATIONS • Entrepreneurs must understand that the chief determinant of what their firms will become tomorrow are the investments they make today • In making investment decisions, a number of factors have to be considered • These factors include the following: • magnitude of anticipated future benefits • cost effectiveness of the investment in achieving business objectives • Entrepreneurs must also consider the financial attractiveness of any investment by considering the following: • calculating figures of merit for their investment • comparing the figures of merit to an acceptance criteria • calculating relevant cash flows FATE Aspiring Entrepreneurs Programme

FIGURE OF MERIT • A figure of merit is a number summarizing an investment’s economic worth and must have the following characteristics: • compounding- this is a process of determining the future value of a present sum of investment • discounting- this is a process of finding the present value of a future sum of investment • Entrepreneurs use a number of methods in determining figures of merit and they include the following: • payback period • accounting rate of return • internal rate of return • net present value FATE Aspiring Entrepreneurs Programme

PAYBACK PERIOD • The payback period is the time entrepreneurs must wait before recouping their original investment • The payback period is calculated as investment annual cash inflow • The payback period suffers from a fundamental problem of insensitivity to the timing of cash flows • Entrepreneurs must understand that an accurate figure of merit must reflect the fact that a Naira today is worth more than a Naira in future • This is for the following reasons: • inflation reduces the purchasing power of future Nairas relative to current ones • in most cases, the uncertainty surrounding the receipt of a Naira increases as the date of receipt recedes into future • the opportunity cost as the Naira today can be productively invested and will grow more than one dollar in a future period FATE Aspiring Entrepreneurs Programme

ACCOUNTING RATE OF RETURN • The accounting rate of return is the ratio of annual average cash inflow to total cash outflow • It is also like the payback period fundamentally flawed because of its insensitivity to the timing of cash flows and the timing of profits FATE Aspiring Entrepreneurs Programme

INTERNAL RATE OF RETURN • The internal rate of return measures the discount rate of return by equating the value of the discounted cash inflow of an investment to its original cost • An investment will be deemed good if its internal rate of return is greater than the opportunity cost of capital or required rate of return FATE Aspiring Entrepreneurs Programme

NET PRESENT VALUE • This states that the present value of a future stream of cash flow is the value today of these future cash flows discounted according to the time horizon between their occurrence in future and today • The calculation of NPV involves the selection of an appropriate discount rate and the discounting of expected cash inflow of an investment to obtain its present value FATE Aspiring Entrepreneurs Programme

EVALUATING RISKS IN INVESTMENT DECISIONS • Entrepreneurs must take into consideration a number of risk factors when making investment decisions • These risk factors include the following: • default risk- the risk that the issuer will be unable to make interest or principal payments on schedule • liquidity risk-the risk that the investment cannot be sold at a reasonable price on short notice • return risk- the risk that the market price of the investment will go down FATE Aspiring Entrepreneurs Programme

BREAKOUT SESSION • Class to be divided into two groups to review and evaluate a pre-assigned case study • Based on the case study participants will determine the following: • investment objectives • asset class that should interest an investor • asset allocations for an investor profile at ages 30, 45, 60 • develop a financial plan for each of the respective four groups FATE Aspiring Entrepreneurs Programme

WHAT IS A BUDGET? FATE Aspiring Entrepreneurs Programme

WHAT IS A BUDGET? • A budget is a tool or financial guide which enables entrepreneurs to plan profitable operations by anticipating and allotting revenues and expenditures • Entrepreneurs must understand that a good budgeting system has some benefits • These benefits include the following: • it controls expense-revenue ratios • it coordinates activities in entrepreneurs’ organizations • it establishes a standard of performance • it serves as an evaluation tool for entrepreneurs • it triggers remedial managerial action • Entrepreneurs must understand that budgeting requires some processes FATE Aspiring Entrepreneurs Programme

TYPES OF BUDGET • Entrepreneurs must understand that there are many different types of budget and they include the following: • operating budget • financial budget • flexible budget • continuous budget FATE Aspiring Entrepreneurs Programme

OPERATING BUDGET • The operating budget is made up of estimates that deal directly with operations. • These include the following: • sales • production • cost of goods sold • operating expenses budget FATE Aspiring Entrepreneurs Programme

SAMPLE COST OF GOODS SOLD BUDGET • PRODUCT/SERVICE 1 Jan Feb March Total • Unit Sold 50 60 70 180 • Cost/unit N20 N20 N20 N20 • Total Cost N1000 N1200 N1400 N3600 • PRODUCT/SERVICE 2 • Units Sold 80 80 100 260 • Cost/unit N200 N200 N200 N200 • Total Cost N1600 N1600 N2000 N5200 FATE Aspiring Entrepreneurs Programme

SAMPLE OPERATING EXPENSES BUDGET Jan Feb Mar Total • NON LABOUR Occupancy Expenses N4,000 N4,100 N4,000 N12,100 Insurance N1,000 0 0 1,000 Miscellaneous N 500 N 500 N 500 1,500 Total Non- Labour N 5,500 N4,600 N4,500 N14,600 LABOUR Salaries N15,000 N15,000 N15,000 N45,000 Taxes &Benefits N 7,000 N 7,000 N 7,000 N21,000 Total Labour N22,000 N22,000 N22,000 N66,000 FATE Aspiring Entrepreneurs Programme

FINANCIAL BUDGET • This deals with the details of how entrepreneurs’ businesses are financed • It is made up of the following: • cash budget- this shows expected cash inflows and outflows and in this way entrepreneurs can anticipate cash shortages and get around to solving it before it becomes a big problem • capital budget- this refers to the acquisition of land, buildings, and equipment • estimating future revenues and expenses resulting from the acquisition can help entrepreneurs determine the suitability or otherwise of such moves • projected financial statements- this shows anticipated financial summary of income statement, balance sheet and statement of cash flow FATE Aspiring Entrepreneurs Programme

FLEXIBLE BUDGET • In flexible budget, entrepreneurs have several sub- budgets in one budget document with a range of activity levels • For example, Nwachukwu Uche can prepare a master budget three times by assuming sales of 20,000, 40,000, and 60,000 packs for his toilet soap business • If actual sales exceed budgeted sales units, it would mean that that most actual expenses will go up (e.g. labour cost) • Flexible cost will therefore enable entrepreneurs to make adjustments on their budgets FATE Aspiring Entrepreneurs Programme

CONTINUOUS BUDGET • This is a never ending budget which is done on a month by month basis • It involves continuous addition to the budget document every month by entrepreneurs • In this way, they can create a budget for twelve months FATE Aspiring Entrepreneurs Programme

THE BUDGETING PROCESS • When developing budgets, entrepreneurs must take the following factors into consideration: • the role of assumptions • forecasting sales under uncertain conditions • expense lead time • budget periods • start-up costs FATE Aspiring Entrepreneurs Programme

ASSUMPTIONS • Various assumptions underlie many of the figures in the budget • For example, the sales forecast is developed based on several assumptions about economic activity, new products coming on line, levels of competitive activity, prices and so forth • These assumptions should be clearly stated in the budget document • The figures can be no better than the validity of the assumptions upon which they are based FATE Aspiring Entrepreneurs Programme

SALES FORECAST • In forecasting sales, entrepreneurs must have good hard data upon which to base forecasts • In the absence of data however, entrepreneurs can use the minimum- budget approach • This involves stating the minimum amount of money needed for each expense center, and then allocating more funds to the budget as sales warrant • This is because budgets can be flexible and allow for changes FATE Aspiring Entrepreneurs Programme

SAMPLE SALES FORECAST • Product/Service 1 Jan Feb March Total • Units Sold 30 40 50 120 • Sales price/unit N300 N300 N300 N300 • Total sales N9000 N12000 N15,000 N36,000 • Product/Service 2 • Units Sold 70 70 80 220 • Sales price/unit N500 N500 N500 N500 • Total sales N35,000 N35,000 N40,000 N110,000 FATE Aspiring Entrepreneurs Programme

EXPENSE LEAD TIME • The flexibility in a budget depends greatly on how much time is involved between the expenditure of funds and the receipt of sales Naira from those expenditures • If sales volume follow expenses by a short time, then entrepreneurs can quickly reduce or expand their budgets to reflect sales experience • This is because the longer the lead time of expenses over sales, the larger the risk of losses due to spending too much money FATE Aspiring Entrepreneurs Programme

BUDGET PERIODS • Entrepreneurs most often prepare their budgets for the coming year by months • However in strong seasonal businesses such as the fashion and apparel industry, each budget will be for a season • In project management types of businesses such as contracting, entrepreneurs will need to prepare different budgets for individual contracts FATE Aspiring Entrepreneurs Programme

START- UP COSTS • Entrepreneurs must also determine what their start-up costs will be by doing a mental walk-through of what their businesses will look like • In determining this the following issues must be considered: • location of the business • initial size of the business • size of office or retail space • types of equipment needed • opening inventory needed • local, state and federal government licenses needed • staff required and cost of hiring • etc FATE Aspiring Entrepreneurs Programme

EVALUATING BUDGETS • Entrepreneurs must understand that budgets are used to get feedback about business operations • This is usually done by preparing performance reports which compare actual results to budgeted amounts and show variances • These variances can then be investigated and corrective actions taken, if needed FATE Aspiring Entrepreneurs Programme

MANAGING YOUR MONEY: FINANCIAL PLANNING, BUDGETS AND ASSUMPTIONS