acceptable to be terse and brief here, because the objective is for internal man-
agement (and not outsiders) to agree on the way to proceed.
Most importantly, indicate the products and services your small business
depends on now and which ones hold the most promise for the future.
You are already focusing.
Competitive Analysis
Now that you’ve established where your small business fits into the market,
it’s time to get very specific about the competition. You will use and refer to this
work for many years to come, and it should be updated at least yearly. Now is a
good time to do intensive research and make sure you really understand what’s
going on in the market and how your company fits in.
To begin, make a chart and list competitors as well as their products, ser-
vices, and pricing. You may also note the size and market position of other firms
and how their strategies differ from yours. Consider further if your small busi-
ness or the competition can release a new product or service that could signifi-
cantly change the market.
If there are too many competitors and it doesn’t make sense to analyze each
of them, pick the ones “in your face” the most often and think especially hard
about what they are doing right. You might just figure out how to trump them,
because the answers often lie close to the most successful competitors. Speak to
mutual customers and vendors and see what you can learn.
Also, answer this question: Why are your competitors successful? More
specifically:
How and where do they advertise?
How do they sell their products(sales force, telemarketing force,
catalogs, Website)?
What conventions and trade shows do they attend?
The Local Market for Philly Cheese Steak Sandwiches
Company Product Niche Pricing
Us Most authentic ingredients $8.95
Eagle Sub Shop Football lover’s hangout $8.95
Philly West Largest (16") $7.95
Liberty Belle’s Students; near university $6.95
This is discussed further in Chapter 3, which deals with selling. Your busi-
ness plan should map out a strategy that follows this model.
Information is easy to gather if you put in the effort. If an inside or outside
sales force is already in place, be sure to ask them about the latest trends and
what they hear when speaking to potential clients. It’s important to learn about
the deals they’ve lost as well as the ones they’ve landed. What would have made
the difference? Clients may also appreciate being asked.
Many industry trade magazines may have done much of the competitive analysis
already, so visit their Internet sites and review a few issues to see what’s avail-
able. Also, check with industry associations and, perhaps, the local chamber of
commerce. Of course, typing a few keywords into an Internet search engine will
likely lead to fast and rich returns on the competitive information you need—
and your competitors will not mind if you read their Websites and advertise-
ments carefully to learn even more.
Finally, when important questions come into focus, consider conducting a
simple, anonymous poll in which potential customers are asked what is good and
bad about your company and the competition. Ask for suggestions! A profes-
sional market survey firm might be better, depending on the size of your busi-
ness. This exercise will be very informative to the small business owner.
Marketing and Pricing Plan
Once the market is described, together with the position of the products and
services offered by your small business, you are ready to determine the best
marketing and pricing plans to obtain your objectives. Of course, this must all be
consistent. If, for example, the marketing objective is high-volume/low-cost/big
market share, then the advertising plan would likely stress price rather than quality
or premium features. If widespread awareness of your company name is an ob-
jective, a big advertising budget is in order.
As we discussed previously, the Unique Selling Proposition of your small
business is the foundation of the business plan. If this has not yet been devel-
oped, do it now.
Management
Management may, in fact, be the most important section of the business
plan. Many managers agree with the old saying, “I would rather work with good
management and a bad product than with a good product and bad management.”
List each major partner, employee, or agent for your company, and then do the
following:
List the skill sets needed to accomplish the business plan.
List each key employee and his or her skills (derived from
discussions and long-forgotten resumes).
Identify areas where extra help is needed, and describe in the
business plan how to find the right people.
Operations and Development Plans
In this section, list the assets used by your small business to generate key
products and services. Also, consider what is needed to create the products and
services needed to meet your objectives. Include current “cash cows” as well as
promising new revenue generators.
Next, determine how much extra capacity your small business will need. Will
you need to replace any equipment? Is there a plan to improve the efficiency of
operations (for example, redesigning work flow)?
Milestones and Financial Estimates
Now that you have done such a good job of presenting your objectives, mar-
ket, competition, Unique Selling Proposition, and future plans, you need to get a
little more specific about when each objective must be reached and who is re-
sponsible. Breaking big objectives into smaller tactical goals and milestones is a
key part in building your bridge from here to there.
When this is accomplished, your small business is in a position to quantify all
this data and create projected financial statements—an Income Statement, Bal-
ance Sheet, and Statement of Cash Flow.
Income Statement (also known as Profit and Loss, or “P and L”).
Calculates how much the business has earned (or lost) over a specific
period of time by adding revenues and subtracting expenses. The
presentation varies depending upon the type of business.
Balance Sheet. Provides a “snapshot” of where the business stands
at a particular point in time, usually at year-end. In other words, at
this particular point in time, projections are made for all important
accounts, including cash, receivables, inventory, fixed assets, other
assets, and total assets. The balance sheet also tells how the assets
are financed—trade credit, payables, loans, or equity (your initial
investment in the business plus accumulated earnings after taxes).
Cash Flow Statement. Tells how much cash flowed through your small
business over a specific period of time, normally one year. Cash flow
includes sales receipts, receivables actually collected, new investments
in the business, new loan proceeds, and increases in trade credit—
countered by cash paid out for bills and expenses, investments in new
equipment, loan paydowns, capital paid out to investors, and some
other items. Cash flow is also affected by depreciation and
amortization charges that hit your income statement, because these
Q “expenses” not requiring cash outlays.
These non-cash items are
added to net income to help figure cash flow.
For most small businesses, it makes sense to build monthly estimated financial
statements for the first year, and then yearly statements for the next four years.
I’ve found that the best way to do this is by building a model with a spread-
sheet program such as Microsoft Excel. If the spreadsheet is designed flexibly,
different assumptions can be entered, and the effects recalculated in nanosec-
onds though the financial statements, charts, and graphs. This is of critical im-
portance, allowing management to see how the results may vary.
The structure of these statements will differ significantly depending upon
your business model and the level of complexity needed by management. For this
reason, the Small Business Owner’s Manual advises that an experienced financial
pro be considered for this part of the project. You can also go on-line and visit
www.TheSmall BusinessOwnersManual.com.
Joe’s Big Business Idea Is Not
I once rolled up my sleeves and be-
gan zealously working on a busi-
ness plan that I was sure would
quickly put me in league with Bill
Gates. I invested a great deal of time
doing all of the right things—I saw
what the competitors were doing,
figured our place in the market,
and calculated projected revenues,
costs, and income. The final num-
bers didn’t look very good.
I worked the numbers again,
stretching the truth just a bit. Still,
the returns were not very good no
matter how much money I invested.
I did my research again and ran the
numbers again—and again.
Finally, I realized that if I worked
24 hours a day, seven days a week,
cut expenses to the bone, was fan-
tastically successful in selling, and
everything worked out as planned
with no unexpected problems or de-
lays, I would eke out a miserable
existence and barely be able to pay
my bills.
Thanks to the business plan, I
decided to trash that idea and move
on to more profitable endeavors.
Appendices
Here is where the business plan re-
tains all of the backup information gath-
ered to compile the plan. Interested
parties will need to refer to this when
additional detail is needed. Again, this
can be informal because the business
plan described here is intended for use
by company insiders.
Useful appendices might include fi-
nancial projections under different “best
case” and “worst case” assumptions,
competitor catalogs and advertisements,
management resumes, income tax re-
turns of your small business for previ-
ous years, articles from trade magazines,
and sales spreadsheets broken down by
product and salesperson.
Business Plans—A Final Note
More than anything, a well-developed
business plan will reveal if your small busi-
ness is headed in the right direction and
if it can realistically attain your objec-
tives. The word realistic is important here.
Many business plans slip into a fantasy
as overly optimistic assumptions are
made about pricing, revenues, and ex-
penses. It is possible that the final plan
will end up much different than what you
expected. Just remember that the objec-
tive is a realistic plan to help you move
forward into the future.
Legal Forms of Business Ownership
Most small businesses are structured in only five forms: sole proprietorship,
partnership, corporation, Limited Liability Company, or Subchapter S Corpora-
tion. The proper form is critical, determining whether owners may protect their
personal assets, have the ability to buy or sell portions of the business, minimize
taxes, and fully enjoy the benefits of being an entrepreneur. The decision as to
which form to choose is important when starting a business, but it should be
revisited every few years. The purpose here is to provide an overview of each
business form so that small business owners may evaluate their own situation
and better assess their strengths and weaknesses in dealing with vendors, com-
petitors, and customers.
Sole Proprietorships
Description
Also known as proprietorships or DBAs (“Doing Business As…”), sole
proprietorships are the simplest business structure. In fact, if you make no ef-
fort at all to formalize your business (not a good idea), then you are a DBA.
As the name implies, a sole proprietorship can be owned by only one person;
if others are involved, another business structure must be chosen. Unlike corpo-
rations and L.L.C.’s, a sole proprietorship is not a separate legal entity. The
small business owner remains personally accountable for the liabilities, debts,
covenants, contractual commitments, and taxes of the business. This includes
claims made against employees acting within the course and scope of their em-
ployment. If, for example, one employee accuses another of sexual harassment
and wins, your sole proprietorship must pay the judgment and everyone’s attor-
ney fees.
A sole proprietorship does not have “perpetual life.” When the small busi-
ness owner dies, the business simply ends. The assets are normally distributed
under the terms of the deceased owner’s will; however, the probate process may
last 12 months or more, and this may cause difficulties if the heirs desire to
operate or sell the business or its assets.
If a small business needs new financing, the sole proprietorship structure
may not be right. Banks and related lending institutions, and investors, are
uncomfortable working with individuals; most of their agreements are struc-
tured as corp.-to-corp. and desire to eschew the many special laws protecting
consumers.
To formalize a DBA, you simply need to register the name at the county or
local level. In most places, this involves only a small fee.
In general, a “fictitious business name statement” must be registered and
published (printed as an announcement a few times in a local newspaper) if the
business name is different from the name of the proprietor, partnership or corpo-
ration doing business with that name. For example, Amy Apple needs to register
the name “Mediocre Advertising.” However, she need not register the name
“Amy Apple Advertising.” Additionally, if the business name suggests additional
owners, you are also required to file for the use of the name (“Amy Apple &
Partners Advertising”).
Registering a name will also prevent others from using it, at least locally. In
most cases, registration is all that is needed. Nevertheless, this is not a “bullet-
proof” way to protect a business name, and others may later contest your right
to use it.
Another advantage of registering a business name is that the courts can then
be used to file legal proceedings, and the legal system will generally support
enforcement of a signed contract under a registered name. Finally, and perhaps
most important, banks allow small businesses to open accounts in the name of
the business only when proof of business name registration is provided.
Tax Treatment
The federal and state tax treatment of DBAs is also straightforward (which is
not the same as reasonable). At the federal level, the small business owner com-
pletes a Schedule C (Net Profit from Business), which summarizes the revenues
and expenses of the business, and then enters the proverbial bottom line onto
Form 1040 (Individual Income Tax Return), which everyone must file person-
ally. If the small business made a profit, that is added to other income, and taxes
are due at the normal personal rates. Federal and possibly state and local payroll
taxes are also due. Note that income derived in this manner is taxed only once (in
contrast to corporations, where income is taxed twice). However, use of the sole
proprietorship form of ownership generally results in a reduced ability to mini-
mize and defer taxes.
Partnership
Description
Unlike other business forms, a partnership must be owned by two or more
people. There are two kinds of partnerships: general partnerships and limited
partnerships, both of which are reviewed in the following sections. Every part-
nership must have at least one general partner who is personally responsible for
the firm’s debts and liabilities.
General Partnership
In this arrangement, two or more partners enter into an agreement to oper-
ate a business. Any general partner may act on behalf of the business unless the
partnership agreement says otherwise. It follows that—unless the partnership
agreement says otherwise—any of the general partners may, on behalf of the
out the business line of credit, and then heads to Rio, the other general partners
must still pay all outstanding obligations of the partnership, even if it is bank-
rupt. If protection from personal liability is required, then another structure
should be considered.
Limited Partnership
A limited partnership is a general partnership with the addition of outside
investors who have limited powers. Not surprisingly, these are the “limited part-
ners.” Unlike a general partnership, a limited partnership cannot be established
with a verbal agreement. There must be a written document. For all practical
purposes, this should be done by an experienced attorney. The limited partners
invest (and often loan) funds to the business, but they are “passive investors”
who have no further powers beyond the rights granted in the investment agree-
ments. Limited partners cannot assist in management of the firm nor participate
in decision-making. However, they also do not need to worry about unlimited
liability. When big problems occur, limited partners are only liable to the extent
of their capital contributions to the business (original investment plus accumu-
lated profits).
Limited partnerships are often seen in real-estate and many other invest-
ment opportunities, where there is a desire to invest or loan funds for the pur-
pose of realizing income or tax advantages. Limited partners usually have little
interest in actually rolling up their sleeves to make the business work better; this
is the job of the general partners, who desire to operate without the counsel of
meddling outsiders. In fact, limited partners must be careful not to become in-
volved in the business, or the law may consider that the hapless limited partner is
actually a general partner and is therefore responsible for all obligations of the
company.
The Partnership Agreement
Partnership agreements are not required. Oral agreements may actually be
binding for general partners, but not with limited partners. However, for all prac-
tical purposes, it is necessary to construct an agreement describing the obliga-
tions, responsibilities, income, and ownership for each general partner (and
perhaps limited partner). The partnership agreement often further describes
business operations, goals, and background information for the limited partner
investors. An attorney may draft these for $1,000 to $5,000, depending upon the
“special twists” needed in comparison with standard boiler-plate partnership
agreements. Although this start-up expense is pricier than what one would pay
for sole proprietorships or most corporations, cost should certainly not be a
significant factor in determining which business ownership form to use.
Unless the partnership agreement says otherwise, a partnership terminates
upon the death, disability, or withdrawal of any partner. When this is not desir-
able, partners may agree (in the partnership agreement) to permit the remaining
partnership, borrow money, enter into agreements, hire and fire, and execute
any other act for the business. So if one general partner grabs the money, maxes
partners to purchase the interest of the deceased partner. Other associated prob-
lems can be solved through the use of specially constructed partnership agree-
ments and careful tax planning.
To register a new small business partnership, most states require filing a
certificate with the secretary of state. This also secures the name (although use
of the name may well be contested without a trademark; see more in Chapter 4),
indicates how meetings will be called and held, and describes legal and statutory
requirements.
Tax Treatment
Partnerships must file income tax returns at the federal level and—if your
state collects income taxes—at the state level as well. Form 1065 (U.S. Return of
Partnership Income) is basically an income statement and is filed with the IRS.
Actually, the partnership pays no taxes. Instead, the IRS is informed of the name
and taxpayer identification number of each partner, and partners are given the
same information on IRS Schedule K-1. Amounts from the K-1 are then trans-
ferred to Form 1040 (Individual Income Tax Return), the personal returns of
partners.
General partners’ income and losses are considered to be “at-risk.” This
means that their personal assets are available to creditors if problems occur.
Therefore, the IRS allows these monies to be classified as active income or loss.
This may be netted against other forms of active income such as normal employ-
ment wages and salaries from the partnership itself. This is useful in minimizing
taxes.
Conversely, limited partners’ income and losses are not at-risk, so the IRS
classifies this as passive income or loss. Passive amounts cannot be used to shel-
ter (offset) active income but must be netted against other forms of passive
income and loss (for example, investment gains and losses, interest income, and
interest expense). Passive losses are often less useful in sidestepping federal and
state income taxes.
The Corporation (C-Corp.)
Description
The ultimate goal of many small businesses is to operate under the corporate
form of ownership. We will discuss the reasons for this, but first let’s understand
exactly what a corporation is.
Unlike most other forms of business ownership, a corporation is a separate
legal entity, chartered under state (not federal) laws, with a perpetual existence
independent of its owners, directors, and managers. Among other activities, a
corporation can incur debts, enter into agreements with vendors and customers,
employ people, and pay taxes. A corporation is owned by shareholders, con-
trolled by directors, and operated by officers. Normally, small business owner(s)
hold all these positions. They are at the same time shareholders, directors, and
officers. Another important characteristic of corporations is that they are taxed
as separate entities. This allows corporate owners (the stockholders) a good deal
of flexibility in minimizing or deferring taxes (more on this later).
Included under the “corporate umbrella” form of business ownership are C-
Corps., S-Corps., and Personal Service Corporations. All have many similari-
ties, but a few important differences will be discussed shortly.
With this in mind, here are the main characteristics—good and bad—of in-
corporating a small business:
Limited Liability
Perhaps the most important reason for incorporating is to shield owners
from problems that may occur in the business. Specifically, if a small business
runs into troubled waters and cannot pay its debts or other liabilities, the assets
of the business may be lost, but personal assets are not in peril. Owners, direc-
tors, and officers stand to lose any investment (including retained earnings) they
may have in the small business. But homes, bank and investment accounts, retire-
ment savings, automobiles, etc., not held in the name of the small business are
difficult to seize.
There are at least three possible exceptions to this rule:
1. Piercing the Corporate Veil
When troubles arise and your small business runs into legal trouble, plaintiffs
will routinely charge that
…if the small business is, in fact, a corporation, such a corporation
is in mere form only, having no existence, and that there existed a
unity of interest and ownership between the small business and its
owners (the Defendants), such that any individuality and separateness
between the small business and its owners (the Defendants) have
ceased, and the small business owners are the alter ego of the small
business.
The plaintiff here is charging that your corporation is a sham—which will
happen any time troubles arise—and you had better be ready to defend yourself
and win on this issue. This is where entrepreneurs need to prove that the
small business is indeed a separate entity, demonstrated by the bookkeeping
system, the shareholders and directors’ meeting minutes, and other evidence.
It is possible to lose on this issue if there is too much hanky-panky between
the small business owners and the business, or if poor records are kept. In
this case, plaintiffs can indeed seize the personal assets of the small business
owner.
2. Personal Guarantee
In many cases, lenders or vendors will request the personal guarantee of
small business owners before advancing funds or credit. Others understand
that it is easy for small business owners to “sell” or otherwise transfer assets
out of the corporation and into the names of the owners. They also understand
that small business owners sometimes retain little value in the business, but
transfer assets out of the company. The intent of a personal guarantee is for
the lender to have access to personal assets, which transcends the benefits of
limited liability.
3. The Feds
Limited liability is not recognized by taxing authorities when a small business
has failed to pay income, payroll, or other taxes. Further, these obligations
survive bankruptcy, and both federal authorities and their state-government
colleagues will pursue “responsible employees” for amounts due plus interest
and penalties.
Tax Planning
Another important benefit of organizing the small business as a corporation
is reaping the rewards of tax planning, also known as tax minimization and/or tax
deferral. A corporation is an independent and separate tax-paying entity from its
owners, so significant tax-minimization and tax-deferral opportunities may be
available. This is discussed further in Chapter 7.
For now, let’s just say that incorporated small business owners, unlike sole
proprietorships or partnerships, may distribute income earned by the small busi-
ness between their corporate and individual income tax returns, rather than re-
port all business income in the year in which it is earned. Further, small business
owners may deduct some expenses unavailable to non-corporate business own-
ers, such as certain types of insurance, vacation, and sick pay.
Charitable and Political Contributions
In addition, the IRS allows corporations to make tax-deductible charitable
contributions. Other forms of business ownership are not allowed this deduc-
tion. Small business owners, of course, may take income from the corporation
and donate it personally to a charity, but note that although payroll taxes must
be paid on any amounts transferred from business to owner, these amounts also
reduce corporate income taxes, since taxable income is reduced. Since the small
business is owned by the same person making the tax contribution, he or she can
devise the best overall plan. Other businesses do not have this flexibility and
cannot deduct such contributions as a business expense.
Year-End
An incorporated small business may keep an accounting system and report
taxes based upon dates that make sense to that business rather than follow the
traditional January 1 – December 31 tax year or the owner’s personal tax year.
For example, a ski resort may find that it makes sense to close the year when
winter is over, say on April 30. Things are not so busy then, and interested parties
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