This Document Contains Chapters 9 to 12 Chapter 9 Legal Challenges for Entrepreneurial Ventures SUGGESTED ANSWERS FOR DISCUSSION QUESTIONS (END-OF-CHAPTER) 1. In your own words, what is a patent? Of what value is a patent to an entrepreneur? What benefits does it provide? A patent is the government’s attempt to prevent the exploitation of product or concept pioneers. It is the only way to provide innovative persons a guarantee that they will receive the fruits of their labor. The patent is invaluable to the entrepreneur because it allows him to compete innovatively with much larger organizations. The patent also helps protect the entrepreneur from unfair manipulation by his/her larger competitors. A patent allows an innovator time to capitalize and receive a fair return on his/her investment. A patent provides a person with a chance of legal recourse against any infringements of his/her rights. 2. What are four basic rules entrepreneurs should remember about securing a patent? (1) Pursue patents that are broad, commercially significant, and offer a strong position. (2) Prepare a patent plan in detail. This plan should outline the costs to develop and market the innovation as well as analyze the competition and technological similarities to your idea. (3) Have your actions relate to your original patent plan. This does not mean a plan cannot be changed. However, it is wise to remain close to the plan during the early stages of establishing the patent. Later, the path that is prepared may change, e.g., licensing out the patent versus keeping it for yourself. (4) Establish an infringement budget. Patent rights are only effective if potential infringers fear legal damages. Thus, it is important to prepare a realistic budget for prosecuting violations of the patent. 3. When can a patent be declared invalid? Cite two examples. A patent can be declared invalid when it is challenged in court. An example is when the patent holder waited an unreasonable length of time before asserting his or her rights. Another example is when other parties are able to prove that the patent itself fails to meet tests of patentability. 4. In your own words, what is a copyright? What benefits does a copyright provide? A copyright is the right of a person to hold exclusive rights to protect his/her work. These works may be literary or artistic productions. An idea may not be copyrighted but the means by which the idea is expressed may be copyrighted. For example, books, periodicals, motion pictures, and computer programs may be copyrighted. The copyright provides the legal security that the works of the author will not be copied. Therefore, the profits from the work will, if not infringed upon, be directed toward the author. 5. How much protection does a copyright afford the owner? Can any of the individual’s work be copied without paying a fee? Explain in detail. If an infringement of the copyright occurs, what legal recourse does the owner have? Under the copyright law, anyone who violates the rights of the author is liable for infringement, although this infringement is difficult to determine because of the “fair use” doctrine. This doctrine allows certain groups of people to reproduce the material without infringement of the author. The author’s work may be reproduced for the purpose of criticism, comment, news reporting, teaching, scholarship, or research. If the author is infringed upon, the author may legally collect actual damages, plus any profits received by the violator. 6. In your own words, what is a trademark? Why are generic or descriptive names or words not given trademarks? A trademark is a unique way of having a company identified without always having the company’s name printed out. A trademark is a unique logo or symbol that goes along with a certain company. For personal names or generic words to be trademarked they have to be suggestive or fanciful or linked to a specific design. 7. When may a trademark be invalidated? Explain. Four ways in which a trademark may be invalidated: (1) Cancellation proceedings: Third party’s challenge to the mark’s distinctiveness within five years of its issuance. (2) Cleaning out procedure: Failure of a trademark owner to file an affidavit stating that it is in use or justifying its lack of use within six years of registration. (3) Abandonment: Nonuse of a trademark for two consecutive years without justification or a statement regarding abandonment of the trademark. (4) Generic meaning: Allowance of a trademark to represent a general grouping of products or services. For example, Kleenex has come to represent tissue, cellophane has come to represent plastic wrap, and scotch tape has come to represent transparent tape. Xerox is currently seeking, through national advertising, to avoid having its name used to represent copier machines. 8. What are three of the pitfalls individuals should avoid when seeking a trademark? Never select a corporate name or a mark without first doing a trademark search. If your attorney says you have a potential problem with a mark, trust that judgment. Seek a coined or a fanciful name or mark before you settle for a descriptive or a highly suggestive one. 9. Identify the legal forms available for entrepreneurs structuring their ventures: sole propretorship, partnership, and corporation. Sole proprietorship—local and state licenses that are necessary to begin operations. If the proprietor chooses a fictitious or assumed name, they must file a certificate of assumed business name with the county. Partnership—written articles of partnership are usually executed and always recommended. They outline the financial and managerial contributions of the partners and carefully delineate the roles in partnership relationships. Corporation—a corporation is “an artificial being, invisible, intangible, and existing only in contemplation of the law.” The procedures ordinarily required to form a corporation are (1) subscriptions for capital stock, (2) approval must be obtained from the secretary of state in the state in which the corporation is to be formed. Corporations that do business in more than one state must comply with federal laws regarding interstate commerce. 10. What are the specific advantages and disadvantages associated with each primary legal form of organization? Sole proprietorship Partnership Corporations 11. What is the ULPA? Describe it. ULPA is the Uniform Limited Partnership Act, which governs limited partnerships. It covers such areas as general provisions, formation, limited partners, general partners, finance, distributions and withdrawals, assignment of partnership interest, dissolution, foreign limited partnerships, derivative actions and miscellaneous considerations. These guidelines should be examined by the prospective partners. 12. Explain the limited liability partnership. The Limited Liability Partnerships (LLP) in a relatively new form of partnership that allows professionals the tax benefits of a partnership while avoiding the personal liability for the malpractice of other partners. Normally, LLP statutes are simply amendments to a state’s already existing partnership laws. 13. What is the nature of an S corporation? List five requirements for such a corporation. The designation of S corporation enables a firm to avoid the double taxation problems of a corporation yet maintain many benefits of a corporation such as limited liability. There are some specific guidelines or requirements that must be followed to qualify for the S corporation designation. Here are some of them: (1) Corporation must be domestic (2) Corporation must not be a member of an affiliated group of corporations (3) Corporation must have 100 or fewer shareholders (4) Corporation can have only one class of stock, and stockholders do not have to have the same voting rights (5) No shareholder of the corporation may be a nonresident alien. 14. What is a limited liability company? A Limited Liability Company (LLC) is a hybrid form of business between a partnership (taxes) and corporation (structure). While members may fully participate in the management activities of the firms, they can retain limited liability status. In addition, there is no limit on the number of stockholders. However, since LLC’s are relatively new each state may have different requirements. 15. Explain the value of the B corporation and the L3C corporation as new legal forms. The B corporation is a new legal form of a socially responsible corporation. They expand corporate accountability so they are required to make decisions that are good for society, not just their shareholders. B corporations must meet comprehensive and transparent social and environmental performance standards and higher legal accountability standards, and maintain expected relations with constituencies established for public policies that support sustainable business. The L3C is a structure that supports a low-profit, limited liability company and facilitates investments in socially beneficial, for-profit ventures. The L3C has an explicit primary charitable mission and only a secondary profit concern. Like the standard LLC, profits and losses flow through the L3C to its members and are taxed according to each investor’s particular tax situation. 16. What type of protection does Chapter 7 offer to a bankrupt entrepreneur? Chapter 7 protects debtors from extreme demands by creditors. After the debtor’s assets have been liquidated, the balance of debts, except for certain exceptions, are then discharged and the debtor is relieved of his/her obligations. 17. What type of protection does Chapter 11 offer to a bankrupt entrepreneur? Why do many people prefer Chapter 11 to Chapter 7? It allows the debtor to keep his business in operation while paying a portion of his debts and having the remaining sum discharged. People prefer Chapter 11 to Chapter 7 because they are able to keep their business and possibly recover and start to earn a profit again. 18. What type of protection does Chapter 13 offer to a bankrupt entrepreneur? How does Chapter 13 differ from Chapter 7 or Chapter 11? Chapter 13 allows people to avoid declaring bankruptcy, pay their debts in installments, and be protected by the federal court. Chapter 13 is different because bankruptcy does not have to be declared and it is a voluntary petition only. ADDITIONAL ACTIVITIES Short Case ALL SHE NEEDS IS A LITTLE BREATHING ROOM When Debbie Dawson started her business 12 months ago, she estimated that it would be profitable within 8 months. That is not what happened. During the first 6 months, she lost $18,000; during the next 6 months, she lost an additional $14,000. Debbie believes that the business is going to get better during the next 6 months and that she will be able to break even by the end of the second year. However, her creditors are not sure. Debbie’s business owes the two largest creditors a total of $48,000. The others are owed a total of $38,000. Debbie believes that, if she can postpone paying her creditors for a period of one year, her company will be strong enough to pay off all of its debts. On the other hand, if she has to pay the creditors now, she will be too weak financially to continue and will have to declare bankruptcy. “I really think it’s in everyone’s best interest to give me 12 months of breathing room,” she explained to her husband. “If they will do this, everyone is going to come out on top. Otherwise, we are all going to take a financial bath.” Debbie has considered broaching the subject with her two major creditors. However, she is not sure whether this suggestion would be accepted or would be used as a basis for their bringing legal action against her. “If they think I am trying to stall them, they just might demand repayment immediately and force me into bankruptcy,” she explained to a close friend. “Of course, if they see things my way, that’s a different story. In any event, I’m reluctant to pursue this line of action without talking to my attorney.” Debbie hopes she and her attorney, Juan, can work out a plan of action that will prevent her having to declare bankruptcy and liquidate the firm. During her phone call to set up a meeting with Juan, she comments, “If everyone remains calm and looks the situation over very carefully, I think they’ll agree that my suggestion is a good one. After all, I’m not asking them to put any more money in the business, so the most they can lose is what they are owed currently. On the other hand, if they force my hand, they’ll probably be lucky to get 40 cents on the dollar. If they wait, they could end up with all of their money. All I’m asking for is a little breathing room.” Juan suggests that they meet later in the week to talk about it. “I’m sure we can think of something,” he tells her. QUESTIONS 1. What type of bankruptcy agreement would you recommend? Why? I would recommend Debbie consider filing for Chapter 11 bankruptcy (reorganization bankruptcy). Chapter 11 allows a business to restructure its debt and continue operating while repaying creditors over time. This type of bankruptcy gives Debbie the opportunity to negotiate with her creditors and propose a repayment plan that stretches the debt over a longer period, allowing her business the "breathing room" it needs to recover without having to liquidate immediately. • Chapter 11 Benefits: • Debbie can remain in control of the business as a "debtor in possession" and continue operations while working on a repayment plan. • The bankruptcy court can help protect the business from immediate creditor action, giving Debbie time to stabilize her business and work towards profitability. • Creditors will have the chance to agree to a repayment plan, which may result in them receiving a higher repayment percentage over time than if the business were liquidated under Chapter 7. • This approach aligns with Debbie’s goal of giving her business time to recover and pay back creditors without forcing her into liquidation. 2. Why would you not recommend the other types of bankruptcy? Be complete in your answer. • Chapter 7 (Liquidation Bankruptcy): • Chapter 7 involves liquidating the business’s assets to pay off creditors. This would result in Debbie losing her business entirely, which is the opposite of what she wants. In her case, she believes the business will improve within 12 months, and liquidation would prevent her from realizing this recovery. Moreover, creditors would likely receive only a fraction of what they are owed, possibly as low as 40 cents on the dollar, as Debbie noted. • Chapter 13 (Repayment Plan for Individuals): • Chapter 13 is typically for individuals with a regular income who want to restructure personal debt, not business debt. Since Debbie is running a business, Chapter 13 would not be appropriate or applicable in her case. Her company’s financial situation would be better served under Chapter 11, which is designed for businesses to reorganize and continue operations. 3. When selling the creditors on your recommendation, what argument(s) would you use? When convincing the creditors to agree to Chapter 11 or an informal workout plan without forcing bankruptcy, Debbie should emphasize the following points: • Higher Repayment Under Reorganization: Under Chapter 11, creditors stand a better chance of being repaid in full over time, as opposed to forcing an immediate liquidation (Chapter 7), which could result in them receiving only a small fraction of what they are owed. • Business Recovery Potential: Debbie believes the business is on the verge of breaking even within the next 6 months. If creditors allow her time to stabilize the business, they can benefit from its future success and receive full repayment. By forcing liquidation, they risk recovering significantly less. • Common Interests: The creditors and Debbie have aligned interests — both want the business to survive. Giving her breathing room allows the business to continue operating, providing a path for creditors to recoup their investments, whereas forcing bankruptcy could result in a "lose-lose" situation. • No Additional Investment Needed: Debbie is not asking for more money from creditors, only more time. Her suggestion allows them to avoid further financial risk, and the most they stand to lose is their current receivables. • Avoiding Legal Costs and Delays: By agreeing to a repayment plan rather than forcing legal action, creditors can avoid costly legal battles and delays that would arise from litigation. Working out a solution outside of court benefits everyone financially and operationally. In summary, Debbie’s creditors would benefit from granting her the time she needs to reorganize, as they have a better chance of getting repaid in full if the business survives than if it is liquidated immediately. Reflection Exercise: ENTREPRENEURS FIGHTING BACK (LEGALLY) AGAINST THE IRS This is a discussion piece. After you read through the story below, prepare some discussion notes that you will take to class for presentation. Try and incorporate some of the legal concepts in our chapter that support your position. When it comes to generating wealth, you can either earn more or keep more. As the federal deficit has climbed to record levels, the federal government has begun to try to “earn” more by focusing on small businesses and the taxes they are currently paying. In order to survive, entrepreneurs will have to reciprocate by being diligent about taking every credit and deduction that is legally allowable. Earning more comes naturally to entrepreneurs, given that the very nature of business is to develop a product or service in order to generate revenue. In addition, entrepreneurs understand that minimizing expenses leads to greater profits; however, most business owners find thinking of the taxes they pay on their business as a reducible expense to be less intuitive. In recent years, the number of small businesses audited by the IRS has climbed dramatically. The IRS unit responsible for smaller businesses is called the Small Business/Self Employed (SBSE) Division which has annual quotas broken down into monthly performance targets for businesses that are a part of their responsibilities. Small businesses with fewer assets typically take less time to audit than those with more assets. These quota pressures may well influence revenue agents and their managers when making their decisions about which business will be audited and which will not. The result is the shift in priorities described. Resources targeting small firms of under $5 million in assets has surged 34 percent while the amount targeting those with $250 million or more has fallen 33 percent. All of this makes the risk of a small firm paying penalties for misrepresenting its tax liability a serious concern. The issue is that entrepreneurs fearful of being audited often avoid legitimate deductions in an attempt to be as conservative as possible, giving away their sorely needed capital in the process. No verifiable statistics exist to indicate exactly how much entrepreneurs are overpaying in taxes or what is leading to the overpayment; however, several steps are consistently cited as being overlooked by entrepreneurs when filing their annual taxes. For example, many tax deductions are given exotic names, such as the domestic-production break. The fact that manufacturers often take advantage of this deduction is not particularly surprising; however, the fact that software companies and agricultural businesses are also eligible is one example of an application that is commonly missed. Given the complexity and sheer volume of tax regulations, few entrepreneurs feel qualified to push their tax preparers to ensure that no deductions have been overlooked. Of course, entrepreneurs need to make certain that they are working with a legitimate professional and—just as important—someone they trust when preparing their taxes; however, if a company’s tax preparer regularly appears too conservative when considering deductions, management would be remiss not to consider other preparers. The cost of an overly cautious preparer can quickly exceed the cost of an audit. In the end, the most important point to remember is that the onus of legally filing the company’s taxes falls on the entrepreneur. The most important step that an entrepreneur can take is to develop a system to ensure that all of the paperwork needed to verify the expenses generated over the course of the year are kept organized. Keeping receipts in a shoebox is not an effective solution; moreover, filing receipts without noting the associated purpose of the purchases will lead to the nightmarish task of recalling the purpose of every excursion made over the last year. Annotating receipts and filing them in an intuitively labeled filing system is the best measure to take to save countless hours of frustration at tax time. Additionally, in the event that your company is audited, you will be in a position to readily provide documentation for every detail of your tax filing. As the IRS shifts its focus to small businesses, entrepreneurs need to do what they do best: innovate. Buried in the tax laws is a multitude of ways for businesses to reduce their tax liability legally. Leaving money on the table when negotiating with business partners is never a strategy for financial success; dealing with the government is no different. Source: Adapted from Justin Martin, “Stop Overpaying the IRS,” Fortune Small Business, February 25, 2008, http://money.cnn.com/2008/02/22/smbusiness/overpaying_IRS_ cover.fsb/ index.htm (accessed April 4, 2008); and Vincent Fernando, “The IRS Is Now Auditing Big Business Far Less, and Small Business Far More,” Business Insider, April 12, 2010, http://articles.businessinsider.com/2010-04-12/news/29957998_1_auditing-lmsb-corporations (accessed March 26, 2012). Chapter 10 Marketing Challenges for Entrepreneurial Ventures SUGGESTED ANSWERS FOR DISCUSSION QUESTIONS (END-OF-CHAPTER) 1. Describe the “new” marketing concept for entrepreneurs with the 4Cs. The dynamics of entrepreneurship has changed as customers have more choice, and thus more control of their buying decision. As a result, customers need to be more involved in the marketing processes. The 4Ps of marketing also need to be balanced with the new 4Cs. From Product to Cocreated—companies are not pushing products on consumers to buy but rather responding to what customers really want; from Promotion to Communities—customers are making buying decisions based on what other like minded people are saying and not just what advertising is persuading them to do; from Price to Customizable—customers can buy a product tailored to their own buying preferences, as one size (or price) does not fit all; and from Place to Choice—consumers can practically find what they from all parts of the world and are not limited by their location as to what they can buy. Since the customer is now at the center of marketing activity, it must recognize creativity, connectivity, collaboration, and context. 2. In your own words, what is a market? How can marketing research help an entrepreneur identify a market? A market is potential customers who have purchasing power. The potential customers make up the market. An entrepreneur would not know what type of venture or area to engage in without market research. The market analysis helps tell the entrepreneur what to do. 3. What are the five steps in the marketing research process? Briefly describe each. (1) Defining the purpose and objectives of the research—in other words, you need to define precisely the informational requirements of the decision to be made (2) Gathering secondary data—these data involve using already compiled data. The two types are internal and external (3) Gathering primary data—these data involve gathering new information. The two forms are surveys and experimentation (4) Interpreting and reporting information—this segment deals with analyzing and reporting useful information where it is needed (5) Marketing research questions—the questions deal in the areas of: sales, distribution, advertising, and products 4. Which is of greater value to the entrepreneur, primary or secondary data? Why? Secondary data are of greater value because they usually contain the information desired and are inexpensive. Sometimes the decision to go forward can be made with secondary data alone. 5. Identify and describe three of the primary obstacles to undertaking marketing research. (1) Cost—market research can be expensive (2) Complexity—the interpretation of the quantitative aspects of marketing research (3) Strategic decisions—cost and complexity are usually tied into major decisions (4) Irrelevancy—only a certain amount of research is not useful 6. Describe social media marketing and mobile marketing. Be specific in your answer. Social media marketing is the use of social networks, online communities, blogs, wikis, and other online collaborative media for marketing purposes. The most common social media marketing tools include Twitter, blogs, LinkedIn, Facebook, Flickr, and YouTube. Mobile marketing uses mobile social media applications to allow the generation and exchange of user-generated context, including text messaging, mobile applications, and mobile advertising. Companies using social media often obtain personal data about their consumers such as current geographical position in time and space. 7. Discuss some of the entrepreneurial tactics in market research that are accomplished with limited resources. A great deal of marketing research can be accomplished via effort and publicly available resources. One particular approach is guerilla marketing, in which the entrepreneur uses unorthodox marketing practices to get the attention of the target customer. Thoughtful insight into trends, patterns, and data result from immersion into a market are always possible. Affordable technological tools, such as Survey Monkey, make it easy to acquire a lot of data on customers. Simply observing customers can be a good way of really understanding your market as well. Focus groups can be put together to examine customers’ feelings, beliefs, perceptions, and experiences about a new venture. Lead user research can be used to get initial reactions about a prototype. Monitoring blogs can provide deep insights into what customers are talking about and really care about. Finally, there is much archival research that can be done in libraries and public websites. A good understanding of the potential customer can be attained at a relatively low cost utilizing a combination of these methods. 8. How would an entrepreneur’s new-venture strategy differ under each of the following marketing philosophies: production driven, sales driven, consumer driven? Be complete in your answer. (1) Production-driven—this is based on the belief “produce efficiently and worry about sales later.” New ventures that produce high-tech, state-of-the-art output sometimes use a production-driven philosophy. (2) Sales-driven—this focuses on personal selling and advertising to persuade customers to buy the company’s output. This philosophy often surfaces when an overabundance of supply occurs in the market. New auto dealers rely heavily on a sales-driven philosophy. (3) Consumer-driven—this relies on research to discover consumer preferences, desires, and needs before production actually begins. This philosophy stresses the need for marketing research to better understand where or who a market is and to develop a strategy targeted toward that group. This is often the most effective, although many ventures do not adopt it. 9. In your own words, what is market segmentation? What role do demographic and benefit variables play in the segmentation process? Market segmentation is identifying the factors that classify consumer groups. Demographic factors are used to determine a geographic or demographic profile of consumers and purchasing power. Benefit variables identify the unsatisfied needs that exist in a market. 10. Identify and discuss three of the psychological characteristics that help an entrepreneur identify and describe customers. Also, explain how the product life cycle will affect the purchasing behavior of these customers. Some psychological characteristics are nature or needs, perceptions, and self-concept. Early adopters purchase goods that make others notice them. The laggard purchases only the basic needs for survival. The perceptions of the early majority influence the purchase of goods that make them acceptable, where the late majority purchase products for the home. The innovator’s self-concept is for the elite things in life, whereas the late majority is concerned with security purchases. 11. What are the five steps that are particularly helpful for developing a marketing plan? Identify and describe each. (1) Appraise marketing strengths and weaknesses, emphasizing factors that contribute to the firm’s “competitive edge.” By knowing your strengths and weaknesses, you know what to avoid and what not to avoid. (2) Develop marketing objectives along with the short-and intermediate-range sales goals necessary to meet those objectives. Setting goals will give you a measure of success. (3) Develop product/service strategies. This will determine needs and specifications. (4) Develop marketing strategies. These are needed to achieve different goals. (5) Determine pricing structure. Determine which customers will be attracted. 12. What are some of the major environmental factors that affect pricing strategies? What are some of the major psychological factors that affect pricing? Identify and discuss three of each. Environmental factors: (1) Degree of competitive pressure—in a monopoly where there is no competition, prices are set as desired. In perfect competition, prices are set. (2) Seasonal or cyclical changes in demand—some goods are more available in certain seasons, so the price is lower. During the off-season, prices are higher because goods aren’t as available. (3) Cost of distribution—if the cost to distribute is higher, then the price of the product or service will be a little higher to compensate for the higher distribution cost. Psychological conditions: (1) In some situations, the quality of a product is interpreted by customers by the item’s price level. Customers believe the higher the price the higher the quality. (2) An emphasis on the monthly cost of purchasing an expensive item often results in greater sales than an emphasis on total selling price. Items like cars or stereos, which are expensive, are easier to pay for monthly because few people have the funds to pay the total sales price. (3) The greater the number of meaningful customer’s benefits the seller can convey about a given product, the less will be the price resistance. The customer is more inclined to look at the benefits and ignore the costs. 13. Explain how pricing is viewed in different ways. Be specific. Pricing can be viewed as value, variable, variety, visible, and virtual. Value is the amount a customer is willing to pay. Variable construes the different ways a customer can pay, such as components of payment, what is actually being paid for, the time of payment, the form of payment, the terms of payment, and the person doing some or all of the paying. Variety occurs when a company sells more than one product and prices in a way to encourage multiple purchases. Visible means consumers see and are aware of the prices of most things that they buy, which signals to the customer ideas about value, image, product availability, demand conditions, and exclusivity. Pricing is virtual because it is easy and quick to change in response to market conditions in today’s technological age. 14. How do pricing strategies differ based on the product life cycle? Customer demand and sales volume will change at different stages of a product’s life cycle. For example, in the introductory stage, skimming that sets a high price to generate maximum short term profit and penetration that sets prices at such a low level that products are sold at a loss are common. In the growth stage, consumer pricing that combines penetration and competitive pricing to gain market share often takes place. In the maturity stage, demand-oriented pricing bases pricing decisions on the demand level for the product. In the decline stage, loss leader pricing below cost attracts customers to other products. 15. Identify the five revenue models for social media start-ups. The five revenue models for social media start-ups are freemium model, affiliate model, subscription model, virtual goods model, and advertising model. The freemium model offers a basic service for free, while charging for a premium service with advanced features to paying members. The affiliate model drives traffic to another affiliated company’s website. Like businesses that rely on advertising, high traffic sites make money using affiliate links. A subscription model requires users to pay a fee to access a product or service. A virtual goods model has users pay for virtual goods, such as upgrades, points, or gifts, on a website or in a game. An advertising model makes money through the traffic that comes to a website. The more traffic, the more that can be charged for ads on the website. ADDITIONAL ACTIVITIES Short Cases DEALING WITH THE COMPETITION Six months ago, Roberta O’Flynn opened a small office supply store. Roberta sells a wide range of general office merchandise, including numerous software packages, photocopying paper, printer cartridges, computer accessories, tablets, envelopes, writing instruments, and computer thumb drives, as well as a limited range of office desks, chairs, and lamps. Several office supply stores in the local area are, in Roberta’s opinion, competitors. In an effort to better understand the competition, Roberta has visited four of these stores and pretended to be a customer so she could get information regarding their prices, product offerings, and service. Each has a different strategy. For example, one of them sells strictly on price; it is the customer’s responsibility to pick up the merchandise and carry it away. Another relies heavily on service, including a 90-day credit plan for those customers who purchase equipment in excess of $500. This company’s prices are the highest of the four stores Roberta visited. The other two stores use a combination of price and service strategies. Roberta believes that, to get her new venture off the ground, she must develop a marketing strategy that helps her effectively compete with these other firms. Because her store is extremely small, Roberta believes that a certain amount of marketing research could be of value. On the other hand, her budget is extremely limited, and she is not sure how to collect the information. Roberta believes that what she needs to do is develop a market niche that will be loyal to her. In this way, no matter how extensive the competition, she always will have a group of customers who buy from her. Roberta also believes that the focus of this research has to be in two general directions. First, she has to find out what customers look for from an office supply store. How important is price? Service? Quality? Second, she has to determine the general strategy of each of her major competitors so she can develop a plan of action to prevent them from taking away her customers. Right now, however, her biggest question is: How do I go about getting the information I need? QUESTIONS 1. Will the information Roberta is seeking be of value to her for competing in this market? Why or why not? Yes, the information Roberta is seeking will be highly valuable for competing in her market. Understanding the market dynamics, customer preferences, and competitor strategies is crucial for any business, particularly in a competitive industry like office supplies. The insights will help her to: • Identify a Market Niche: By knowing what customers prioritize (price, service, or quality), Roberta can tailor her offerings to meet specific customer needs and find a unique position in the market. • Differentiate Her Business: Understanding what her competitors excel at and where they are weak will help her create a competitive advantage, whether through pricing, customer service, product selection, or other factors. • Develop a Targeted Strategy: Roberta can design marketing strategies that attract and retain a loyal customer base, addressing gaps in competitors' services and capitalizing on the opportunities present in her market. Without this information, she risks making decisions based on assumptions, which could lead to misalignments between her business offerings and customer expectations. 2. How would you recommend that Roberta put together her marketing research plan? What should be involved? Be as complete as possible in your answer. Roberta should create a systematic and cost-effective marketing research plan. Here’s a recommended outline: A. Define Objectives: • Understand Customer Needs: Determine the priorities of office supply store customers (price, service, quality, convenience). • Analyze Competitors: Study the strategies of competing office supply stores to identify their strengths, weaknesses, and opportunities for differentiation. • Identify a Niche: Focus on finding a loyal customer base by developing a unique value proposition that meets an underserved need. B. Primary Research (Low Cost): 1. Customer Surveys: Develop a short, targeted questionnaire for current and potential customers. Ask about their preferences on price, service, quality, and why they would choose one office supply store over another. Distribute these via email, social media, or in-store. • Sample Questions: • How important is price when purchasing office supplies? • How do you prioritize service (e.g., credit plans, delivery) when making a purchase decision? • What products or services would you like to see in an office supply store that are currently unavailable? • How often do you purchase office supplies, and from where? 2. Competitor Observation: Continue visiting competitors in the role of a customer to gather more detailed data on their pricing, customer service, and product range. Track how they handle promotions, sales, and loyalty programs. 3. Focus Groups: Host small, informal focus groups with local business owners or regular customers. Discuss what they like and dislike about office supply stores and what could encourage them to switch to a new store. C. Secondary Research: • Online Reviews and Industry Reports: Analyze customer reviews on platforms like Google or Yelp to identify pain points in competing stores. Roberta can also access industry reports on office supply trends through local libraries or online databases for free or low-cost options. D. Competitive Analysis: • SWOT Analysis (Strengths, Weaknesses, Opportunities, Threats): Create a detailed analysis of Roberta’s store and competitors. This will help identify gaps that can be filled by offering niche products or services. E. Develop a Marketing Strategy Based on Research: 1. Segment the Market: Based on the research, identify customer segments with specific needs (e.g., small businesses, freelancers, schools). 2. Position the Store: Focus on providing value through either price, service, or unique products not carried by competitors. 3. Promotions: Use the insights gathered to create targeted promotions, like special discounts for local businesses, customer loyalty programs, or personalized service options. 3. How expensive will it be for Roberta to follow your recommendations for her marketing research plan? Describe any other marketing research efforts she could undertake in the near future that would be of minimal cost. Costs of the Plan: • Surveys: Minimal cost, especially if conducted online (free platforms like Google Forms). • Competitor Observation: Free but time-consuming. • Focus Groups: Could be organized informally with regular customers for little to no cost (offering a small incentive like a discount for participation). • SWOT Analysis: No cost, just a time investment. Other Minimal-Cost Research Options: 1. Social Media Polls: Use platforms like Facebook or Instagram to ask quick questions about customer preferences. 2. In-store Feedback Box: Place a suggestion box in-store to gather anonymous feedback from current customers. 3. Partnership with Local Chamber of Commerce: Join the local business network to exchange insights and trends in the office supply industry. 4. Competitor Coupons: Collect coupons from competitors to track their pricing and promotional strategies, giving Roberta ideas on how to structure her own deals. By combining these low-cost efforts, Roberta can gather valuable data without stretching her limited budget. A NEW MOBILE “APP” FOR A MUSIC COMMUNITY Following his graduation from an excellent university with a degree in music and entrepreneurship, Brian Wright was eager to launch a music-related business. Brian always enjoyed working with new technologies as well as listening to music. Because of the proliferation of social media sites on the Internet and the advances in mobile technologies with smartphones, he believed that developing an “app” for mobile phones that brings together a community of fans for their favorite music would be ideal. The development of mobile applications has become one of the largest industries of mobile technologies and hundreds of thousands of apps exist for mobile users in almost every category: games, lifestyle, social networking, education, business, etc. In the Apple App Store alone are more than 500,000 apps and counting; many are even free, but many others are not, which means mobile applications are truly a growing source of business. Brian was confident that the success of the other open sourced communities and other mobile apps proved that there was a market for his idea; therefore, developing an app for personal music would be an easy concept for customers to grasp. Although music can be downloaded for free or for small fees, Brian knew that he and his friends preferred to listen to an particular music and then comment about it. Brian believed that any true fan of a particular brand of music would want to engage with other like-minded individuals. And, if it was available on a smartphone as an app, then the mobility issue would ensure its success. When calculating potential revenue, Brian concluded that the best way to monetize the app would be through a reasonable purchase price and then have music related companies pay for ads that run within the app. Since he was creating new social community around music, this would certainly be an avenue for companies to advertise. As Brian began discussing his idea with his friends, their enthusiasm convinced him that he needed to act quickly before someone else seized the opportunity. At $2 per app purchase and an estimated four new community members per month, he would only need a little over 20,000 customers to reach $1,000,000 in annual revenue. After looking at his financial forecasts, Brian decided that it was time to bring his mobile music app to market. QUESTIONS 1. Has Brian completed the proper marketing research for this potential opportunity? Why or why not? Explain. No, Brian has not completed sufficient marketing research. While he has anecdotal evidence from his friends and is aware of the popularity of mobile apps and social communities, he has not conducted formal research to verify if there is a broad market demand for his specific music app. He hasn’t validated the estimated user base, competition, or the true willingness of people to pay for his app in a crowded app store. 2. Based on the case, are there key mistakes that you would caution Brian about? Explain. • Overly optimistic revenue projections: Brian assumes he’ll easily acquire 20,000 customers without market validation or a clear customer acquisition strategy. • Lack of competitive analysis: He does not seem to consider existing music-related apps and what differentiates his offering. • Over-reliance on advertising revenue: Advertising can be unpredictable, and he assumes music companies will want to advertise on his platform without proving the app's audience size or engagement level. 3. What specific steps would you recommend to Brian for him to better assess this opportunity? • Conduct market research: Survey potential users to gauge interest in a music-focused social app and their willingness to pay for it. • Competitor analysis: Analyze existing apps in the music community space to identify gaps and opportunities. • Develop a customer acquisition plan: Explore how to attract users, considering marketing channels and partnerships. • Test the concept: Consider developing a prototype or beta version to gather feedback before a full-scale launch. Chapter 11 Financial Preparation for Entrepreneurial Ventures SUGGESTED ANSWERS FOR DISCUSSION QUESTIONS (END-OF-CHAPTER) 1. What is the importance of financial information for entrepreneurs? Briefly describe the key components. Financial information pulls together all the information presented in the other segments of the business; marketing, distribution, manufacturing, and management. It quantifies all the assumptions and/or historical information concerning business operations. The key components of the financial segment include the balance sheet, which represents the financial condition of a company at a certain date. It details the items owned by your company (assets) and the amount owed by the company (liabilities). It also shows the net worth of the company and its liquidity. The balance sheet must follow the traditional accounting equation: Assets = Liabilities + Equity. Another key component is the income statement commonly referred to as the P & L (profit and loss) statement, which provides the owner manager with the results of operations. It measures the success of the business. Finally, the last component is the cash flow statement, which is an analysis of the cash availability and cash needs of the business. The projected cash flow is a planning tool to allow management to make borrowing and investing decisions. 2. What are the benefits of the budgeting process? Budgeting allows top management to determine the company’s goals. This is a benefit because top management is more familiar with the goals, strategies, and available resources of the company. Another benefit can be the involvement of operating management in the budget process. This is more likely to get a commitment from them than the top-down approach is. 3. How is the statistical forecasting technique of simple linear regression used in making a sales forecast? Simple linear regression is used to show the relationship between three variables. The equation for simple linear regression is Y = a + bx. Y is a dependent variable (dependent on the values of a, b, and x), x is the independent variable (not dependent on any of the other variables), a is a constant, and b is the slope of the line (the change in Y divided by the change in x). For estimating sales, Y is the expected sales, and x is the variable used to represent the factor on which sales are dependent. Some retail stores may believe that their sales are dependent on their advertising expenses, whereas other stores may think that their sales are dependent on some other variable, such as foot traffic. The entrepreneur uses this analysis to draw conclusions about the relationship between x and Y. 4. Describe how an operating budget is constructed. The operating budget is constructed by estimating sales, expenses, and cost of goods. These three budgets are combined to make up the operating budget. 5. Describe how a cash flow budget is constructed. The cash flow budget is created by first determining the cash inflows and their timing. Then the cash outflows must be determined. These are combined to make up the cash flow budget. 6. What are pro forma statements? How are they constructed? Be complete in your answer. Pro forma statements are projections of a firm’s financial position over a future period of time or on a future date. The pro forma income statement is created first. It is a combination of all of the pro forma income statements that were created for the preparation of the operating budget. Preparing the pro forma balance sheet requires the last balance sheet prepared before the budget period began, the operating budget, and the cash flow budget. Projected balance sheet totals are created by adding the projected changes as shown on the budgets, starting with the beginning balance sheet balances. The accuracy of the pro forma balance sheet is checked by using the traditional accounting equation: Assets = Liabilities + Owners’ Equity. 7. Describe how a capital budget is constructed. The first step is to identify the cash flows and their timing. The formula is represented by capital budgeting. Expected Returns = X(1 – 2T)1 Depreciation. X is equal to the net operating income and T is the tax rate. The principal objective is to maximize the value of the firm. The three most common methods are the payback method, net present value method, and the internal rate of return. 8. One of the most popular capital-budgeting techniques is the payback method. How does this method work? Give an example. The entrepreneur will select a maximum time frame for the payback period. Any project that requires a longer period will be rejected, and those projects that fall into the time frame will be accepted. Each machine costs $1,000 This is the payback method with a cutoff period of 3 years. Proposal A would be paid back in 2 1/3 years; $900 of the original investment will be paid back in the first 2 years and the last $100 in the third year. Proposal B will require 4 years for its payback. Proposal A should be chosen. 9. Describe the net present value method. When would an entrepreneur use this method? Why? The net present value (NPV) method is a technique that helps to minimize some of the shortcomings of the payback method by recognizing the future cash flows beyond the payback period. The concept works on the premise that a dollar today is worth more than a dollar in the future. The entrepreneur is adjusting future cash flows to determine their value in present period terms. The entrepreneur would use this method when he’s not satisfied with the results of the payback method. 10. Describe the internal rate of return method. When would an entrepreneur use this method? Why? Future cash flows are discounted; however, they are discounted at a rate that makes the NPV of the project equal to zero. The project with the highest IRR is selected. When using the IRR concept, the entrepreneur must begin with a NPV of zero and work backward through the tables. The entrepreneur must estimate the approximate rate. When future cash flows beyond the payback are to be considered, the NPV and the IRR are the methods to be used in determining the best proposal. 11. When would an entrepreneur be interested in break-even analysis? When the entrepreneur needs relevant, timely, and accurate information that will enable him or her to price competitively and yet be able to earn a fair profit. It helps determine how many units must be sold in order to break even at a particular selling price. 12. If an entrepreneur wants to use break-even analysis but has trouble assigning some costs as either fixed or variable, can break-even analysis still be used? Explain. If the entrepreneur has trouble assigning fixed or variable costs, he can still do break-even analysis using a technique specifically designed for entrepreneurial firms. This technique is known as handling questionable costs. This technique calculates break-even points under alternative assumptions of fixed or variable costs to see if a product’s profitability is sensitive to cost behavior. There are three decision rules for this cost. (1) The product should be profitable if sales exceed the highest break-even point. (2) The product should be unprofitable if expected sales do not exceed the lower break-even point. (3) If expected sales fall between the two break-even points, then the questionable cost’s behavior needs to be looked at further. 13. What is ratio analysis? How is horizontal analysis different from vertical? Financial statements report on a firm’s position at a point in time and on its operations over some past period. However, the real value of financial statements lies in the fact that they can be used to help predict the firm’s earnings and dividends. From an investor’s standpoint, predicting the future is what financial statement analysis is all about; from an entrepreneur’s standpoint, financial statement analysis is useful both as a way to anticipate conditions and, more importantly as a starting point for planning actions that will influence the course of events. An analysis of the firm’s ratios is generally the key step in a financial analysis. The ratios are designed to show relationships between financial statement accounts. Ratio analysis can be applied from two directions. Vertical analysis is the application of ratio analysis to one set of financial statements. Here, an analysis “up and down” the statements is done to find signs of strengths and weaknesses. Horizontal analysis looks at financial statements and ratios over time. In horizontal analysis, the trends are critical: are the numbers increasing or decreasing, are particular components of the company’s financial position getting better or worse? ADDITIONAL ACTIVITIES THE PROJECT PROPOSAL Bill Sergent has just received a request for proposal (RFP) from a large computer firm. The firm is looking for a supplier to provide it with high-tech components for a supercomputer being built for the Department of Defense. Bill’s firm, which is only eight months old, was founded by a group of scientists and engineers whose primary expertise is in the area of computers and high technology. Bill is thinking about making a reply to the RFP, but first he wants to conduct a break-even analysis to determine how profitable the venture will be. Following is the information he will use in his analysis: •The computer firm wants 12 different components built, and the purchase price will be $11,000 per component. •The total cost of building the first component will be $20,000. •The cost of building each of the 11 other components will be $8,000, $6,000, $5,000, $4,000, $5,000, $6,000, $8,000, $11,000, $28,000, $40,000, and $40,000, respectively. •Bill’s company will not accept any proposal that will give it less than an 11 percent return on sales. On the basis of this information, complete the following break-even chart, and then answer the two questions. Short Cases IT’S ALL GREEK TO HER When Regina McDermott opened her auto repair shop, she thought her 15 years of experience with cars was all she would need. To a degree, she was right—within six months, her shop had more work than it could handle, thanks to her widening reputation. At the same time, however, Regina has found it necessary to spend more and more time dealing with financial planning. Three weeks ago, her accountant came by to discuss a number of finance-related matters. One of these is the need for cash budgeting. “I can work up a cash budget for you,” he explained. “However, I think you should understand what I’m doing so you will realize the importance of the cash budget and be able to visualize your cash inflows and outflows. I think you also need to make a decision regarding the new equipment you are planning to purchase. This machinery is state of the art, but, as we discussed last week, you can buy a number of different types of machinery. You are going to have to decide which is the best choice.” Regina explained to her accountant that she was indifferent about which equipment to buy. “All of this machinery is good. Perhaps I should purchase the cheapest.” At this point, the accountant explained to her that she could use a number of ways to evaluate this type of decision. “You can base your choice on the payback method—how long it takes to recover your investment in each of these pieces of equipment. You can base it on net present value by discounting future cash flows to the present. Or you can base it on internal rate of return, under which the cash flows are discounted at a rate that makes the net present value of the project equal to zero.” Regina listened quietly; when the accountant was finished, she said, “Let me think about the various ways of evaluating my capital investment, and I’ll get back to you. Then, perhaps you and I can work out the numbers together.” Her accountant said this sounded fine to him, and he left. Regina began to wish that she had taken more accounting courses while in college. As she explained to her husband, “When the accountant begins to talk, it’s all Greek to me.” QUESTIONS 1. What is the purpose of a cash-flow budget? What does it reveal? Of what value would it be to Regina? A cash-flow budget is used to estimate the cash inflows and outflows over a period of time, revealing whether a business has sufficient cash to cover its expenses. It helps forecast potential shortfalls or surpluses, ensuring a business can plan for future financial needs. For Regina, this would be valuable in managing her growing auto repair shop, as it would help her ensure she has enough cash on hand to cover expenses, invest in new equipment, and avoid cash shortages. 2. How does the payback method work? How does the net present value method work? How would you explain each of these methods to Regina? • Payback Method: The payback method calculates how long it will take to recover the initial investment in an asset or project. It’s a simple method where Regina would determine the time it takes for the cash inflows generated by the equipment to equal the purchase cost. The shorter the payback period, the quicker the investment is recovered. Explanation to Regina: "If you spend $10,000 on equipment and it generates $5,000 a year in profit, it will take two years to pay back your investment." • Net Present Value (NPV) Method: NPV takes into account the time value of money by discounting future cash flows to the present. This method shows whether the investment will add value to the business. A positive NPV means the investment is profitable, while a negative NPV indicates a loss. Explanation to Regina: "We look at the future earnings from the equipment, but since money now is worth more than money later, we discount future profits to today's value. If the total value is positive, it's a good investment." 3. How does the internal rate of return method work? How would you explain it to Regina? • Internal Rate of Return (IRR) Method: IRR is the discount rate that makes the NPV of an investment equal to zero. It’s the rate of return expected on an investment. The higher the IRR, the more attractive the investment. It helps Regina compare different investment options based on the rate of return they’ll generate. Explanation to Regina: "The IRR tells you what return you can expect from your investment. If this rate is higher than what you could earn elsewhere, like a bank or another project, it's worth considering." THE CONTRACT PROPOSAL Dennis Darby owns a small manufacturing firm that produces electronic components for use in helicopters. Most of his business is a result of military and aircraft manufacturer contracts, although 11 percent of revenues come from firms that own or rent helicopters. The latter are typically large Fortune 500 companies or leasing/rental firms that work on a contractual basis for clients. Dennis would like to increase his revenues from sales to private corporations that own their own helicopters. Specifically, he would like to do more business with oil companies that maintain helicopter fleets for ferrying people to and from oil rigs in the Gulf of Mexico and other offshore locations. Early this week, Dennis received a request from an oil company for 120 electronic components. He turned the order over to his chief estimator, who estimates that the fixed costs associated with producing these components will be $35,000, the unit variable cost will be $400, and the unit selling price will be $800. Dennis will not accept any order on which the return on sales is less than 20 percent. Additionally, the estimator has told him that a $1,000 expense can be classified as either fixed or variable. Dennis intends to take this information and make a decision whether to accept the contract from the oil company. He has to make a decision within the next three days. QUESTIONS 1. What is the break-even point for this project? Will the company make money if it manufactures the components? Show your calculations. Break-even Point Calculation: • Fixed Costs (FC): $35,000 • Unit Variable Cost (VC): $400 • Unit Selling Price (SP): $800 • Contribution Margin (CM): SP - VC = $800 - $400 = $400 Since the break-even point must be a whole number, Dennis needs to sell 88 units to break even. Will the company make money? If Dennis receives an order for 120 components, he will make money, as 120 units exceed the break-even point of 88 units. 2. If the project will be profitable, will it provide Dennis with the desired 20 percent return? Explain. Profit Calculation: Since the return on sales is 13.54%, which is less than Dennis's desired 20%, the project will not provide the desired return. 3. Of what value is break-even analysis to Dennis? Be complete in your answer. Break-even analysis is valuable to Dennis for several reasons: • Decision-Making: It helps him understand the minimum sales required to cover costs, guiding whether to accept contracts based on profitability. • Financial Planning: It provides insight into the financial viability of different projects, aiding in budget allocation and forecasting. • Risk Assessment: Knowing the break-even point allows Dennis to evaluate the risk associated with new contracts and whether they align with his profit expectations. • Pricing Strategy: Understanding the relationship between costs, pricing, and sales volume enables Dennis to adjust his pricing strategies to achieve desired profit margins. Overall, break-even analysis serves as a critical tool for Dennis in assessing the financial implications of his business decisions and strategic planning. Chapter 12 Developing an Effective Business Plan SUGGESTED ANSWERS FOR DISCUSSION QUESTIONS (END-OF-CHAPTER) 1. What is a business plan? A business plan is the written document that details the proposed venture. It must describe the current status, expected needs, and projected results of the new business. It is the company’s roadmap for where it wants to. 2. Describe each of the five planning pitfalls entrepreneurs often encounter. Five planning pitfalls: (1) No realistic goals (2) Failure to anticipate roadblocks—The entrepreneur is so immersed in his or her own idea that objectivity goes out the window. (3) No commitment or dedication—Too many entrepreneurs appear to lack real commitment to their venture. (4) Lack of demonstrated experience (business or technical)—Since many investors weight very heavily the entrepreneur’s actual experience in a venture, it is important to demonstrate what background the entrepreneur possesses. (5) No market niche—Many entrepreneurs propose an idea without really finding out who the potential customers are going to be. 3. Identify an indicator of each pitfall named in Question 2. What would you do about each? (1) No realistic goals: Lack of attainable goals. A way to avoid this pitfall is to set up a realistic time table with specific steps to be accomplished during a specific time period. (2) Failure to anticipate roadblocks: No recognition of future problems. The best way to avoid this is to list the possible obstacles that may arise, and the alternatives that state what might have to be done to overcome the obstacles. (3) No commitment or dedication: Excessive procrastination. Act quickly and be sure to follow up all professional appointments. Also, be ready and willing to demonstrate financial commitment to the venture. (4) Lack of demonstrated experience (business or technical): No experience in business. To avoid this pitfall, the entrepreneur needs to give evidence of personal experience and background for this venture. If there is a lack of specific knowledge or skills, the individual should obtain assistance from those who possess this knowledge or these skills. Demonstration of a “team” concept of those who will be helping out may be useful. (5) No market niche: Uncertainty about who will buy the basic ideas behind the venture. Have a market segment specifically targeted and be able to demonstrate why and how the specific product or service will meet the needs or desires of this target group. 4. Identify the benefits of a business plan (a) for an entrepreneur and (b) for financial sources. Entrepreneur: (1) The time, effort, research, and discipline needed to put together a formal business plan force the entrepreneur to view the venture critically and objectively. (2) The competitive, economic and financial analysis that is included in the business plan subjects the entrepreneur to close scrutiny of his/her assumptions about the success of the venture. (3) Since all the aspects of the business venture must be addressed in the plan, the entrepreneur develops and examines operating strategies and expected results for outside evaluators. (4) The business plan quantifies goals and objectives, which provides measurable benchmarks for comparing forecasts with actual results. (5) The completed business plan provides the entrepreneur with a communication tool for outside financial sources as well as an operational tool for guiding the venture toward success. Financial Sources: (1) The business plan provides for financial sources the details of the market potential and plans for securing a share of that market. (2) Through prospective financial statements, the business plan illustrates the venture’s ability to service debt or provide an adequate return on equity. (3) The plan identifies critical risks and crucial events with a discussion of contingency plans that provide opportunity for the venture’s success. (4) By providing a comprehensive overview of the entire operation, the business plan gives financial sources a clear, concise document that contains the necessary information for a thorough business and financial evaluation. (5) For a financial source with no prior knowledge of the entrepreneur or the venture, the business plan provides a useful guide to assessing the individual entrepreneur’s planning and managerial ability. 5. What are the three major viewpoints to be considered when developing a business plan? The first viewpoint is the entrepreneur’s since he or she is the one developing the venture and clearly has the most in-depth knowledge of the technology or creativity involved. This is the most common viewpoint in business plans and it is essential. More important than high technology or creative flair is the marketability of a new venture. Referred to as “market driven,” this type of enterprise convincingly demonstrates the benefits to users, the particular group of customers it is aiming for, and the existence of a substantial market. This viewpoint—that of the marketplace—is the second critical emphasis with which a business plan must be written. The third viewpoint is related to the marketing emphasis just discussed. The investor’s point of view is concentrated on the financial forecast. Sound financial projections are necessary if investors are to evaluate the worth of their investment. 6. Describe the six-step process venture capitalists follow when reading a business plan. (1) Determine the characteristics of the venture and its industry. (2) Determine the financial structure of the plan (amount of debt or equity investment required). (3) Read the latest balance sheet (to determine liquidity, net worth, and debt/equity). (4) Determine the quality of entrepreneurs in the venture (sometimes the most important step). (5) Establish the unique feature in this venture (find out what is different). (6) Read the entire plan over lightly (this is where the entire package is paged through for a casual look at graphs, charts, exhibits, etc.). 7. What are some components to consider in the proper packaging of a plan? (1) Appearance—the binding and printing must not be sloppy, nor should the presentation be too lavish. A plastic spiral binding holding together a pair of cover sheets of a single color provides both a neat appearance and sufficient strength to withstand handling by a number of people without damage. (2) Length—a business plan should be no more than 40 pages long. Adherence to this length forces entrepreneurs to sharpen their ideas and results in a document likely to hold investor’s attention. (3) The cover and the title page—the cover should bear the name of the company, its address and phone number, and the month and year in which the plan is issued. An interested investor wants to be able to contact a company easily and to request further information or express an interest either in the company or in some aspect of the plan. Inside the front cover should be a well-designed title page on which the cover information is repeated and in an upper and lower corner, the legend “copy number” should be provided. Besides helping entrepreneurs keep track of plans in circulation, holding down the number of copies outstanding (usually to no more than 20) has a psychological advantage. After all, no investor likes to think that the prospective investment is shopworn. (4) The executive summary—the two pages immediately following the title page should concisely explain the company’s current status, its products or services, the benefits to customers, the financial forecasts, the venture’s objectives in three to seven years, the amount of financing needed, and how investors will benefit. This is a tall order for a two-page summary, but it will either sell investors on reading the rest of the plan or convince them to forget the whole thing. (5) The table of contents—after the executive summary, includes a well-designed table of contents. List each of the business plan’s sections and mark the pages for each section. 8. Identify five of the ten guidelines to be used for preparing a business plan. (1) Keep the plan respectably short. Readers of business plans are important people who refuse to waste time. Therefore, entrepreneurs should explain the venture not only carefully and clearly, but concisely as well. (2) Organize and package the plan appropriately. A table of contents, an executive summary, an appendix, exhibits, graphs, proper grammar, a logical arrangement of segments, and overall neatness are critical elements in the effective presentation of a business plan. (3) Orient the plan toward the future. Entrepreneurs should attempt to create an air of excitement in the plan by developing trends and forecasts that describe what the venture intends to do and what the opportunities are for the use of the product or service. (4) Avoid exaggeration. Sales potentials, revenue estimates, and the venture’s growth should not be inflated. Many times a best case, worst case, and probable case scenario should be developed for the plan. Documentation and research are vital to the credibility of the plan. (5) Highlight critical risks. The critical risks segment of the business plan is important in that it demonstrates the entrepreneur’s ability to analyze potential problems and develop alternative courses of action. 9. Briefly describe each of the major segments to be covered in a business plan. (1) The Summary: Many people who read business plans (bankers, venture capitalists, investors) like to see a summary of the plan that features its most important parts. Such a summary gives a brief overview of what is to follow and helps put all of the information into perspective and should be no longer than three pages. (2) Business description: The name of the venture should be identified, with any special significance related (e.g., family name, technical name, etc.). The industry background should also be presented. The new venture should be thoroughly described along with its proposed potential. Also, the potential advantages the new venture possesses over the competition should be discussed at length. (3) Market segment: In this segment of the report the entrepreneur must convince investors that there is a market, that sales projections can be achieved, and that the competition can be beaten. (4) Research, design, and development segment: The extent of any research, design, and development in regard to cost, time, and special testing should be covered in this segment. Investors need to know the status of the project in terms of prototypes, lab tests, and scheduling delays. (5) The location segment: This segment should always begin by describing the location of the new venture. The chosen site should be appropriate in terms of labor availability, wage rate, proximity to suppliers and customers, and community support. In addition, local taxes and zoning requirements should be sorted out, and the support of area banks for new ventures should be touched upon. (6) The management segment: This segment should identify the key personnel, their positions and responsibilities, and the career experiences that qualify them for those particular roles. Complete resumes should be presented for each member of the management team. (7) The financial segment: The financial segment of a business plan must demonstrate the potential viability of the undertaking. (8) The harvest strategy segment (9) The milestone schedule segment: This segment provides investors with a timetable for the various activities to be accomplished. It is important to demonstrate that realistic time frames have been planned and that the interrelationship of events within these time boundaries are understood. (10) The appendix and/or bibliography segment: The final segment is not mandatory, but it allows for additional documentation that is not appropriate in the main parts of the plan. Diagrams, blueprints, financial data, vitae of management team members, or bibliographical information that supports the other segments of the plan are examples of material that can be included. 10. Why is the summary segment of a business plan written last? Why not first? The summary should be written only after the entire business plan has been completed. In this way, particular phases or descriptions from each segment can be identified for inclusion in the summary. Since the summary is the first, and sometimes the only part of a plan that is read, it must present the quality of the entire report. 11. What are five elements included in the marketing segment of a business plan? Market niche and market share, competition analysis, pricing policy, advertising plan, and market strategy. 12. What is the meaning of the term critical risks? This means that potential risks such as the following should be identified: effect of unfavorable trends in the industry, design or manufacturing costs that have gone over estimates, difficulties on long lead times encountered in purchasing parts or materials, or new competition that was not planned for. 13. Describe each of the three financial statements that are mandatory for the financial segment of a business plan. (1) The pro forma balance sheet—pro forma means projected, as opposed to actual. The pro forma balance sheet projects what the financial condition of the venture will be at a particular point in time. Pro forma balance sheets should be prepared at start-up, semiannually for the first years, and at the end of the first three years. (2) The income statement—the income statement illustrates the projected operating results based on profit and loss. The sales forecast, which was developed in the marketing segment, is essential to this document. (3) The cash flow statement—in new-venture creation, the cash flow statement may be the most important document since it sets forth the amount and timing of expected cash inflows and outflows. This section of the business plan should be constructed carefully. 14. Why update a business plan? There are several reasons for updating a business plan; for example, financial needs may change, additional financing may be needed, markets may change, new products or services may be considered for launching, new members may be added to the management team, and due to the general changing nature of the business the reality the entrepreneur faces may change. 15. Outline some of the critical points to capture in an elevator pitch. (1) Focus on the “pain” your venture will address. (2) Demonstrate the “reachable market.” (3) Explain the business model. (4) Tout the management team. (5) Explain your metrics that were used in generating your revenue projections. (6) Motivate the audience. (7) Explain why you are the right venture and why this is the right time to be launched. ADDITIONAL ACTIVITIES Short Case IT’S JUST A MATTER OF TIME Pedro Santini has been a computer analyst for five years. In his spare time, he has developed a word processing software program that is more comprehensive and powerful than any on the market. Because he does not have a great deal of money, Pedro believes that the first step in producing and marketing this product should be to obtain the necessary venture capital. The software program has been written and trial-tested by Pedro and a handful of friends to whom he gave the material. Two of these friends are computer word processors who told him that the program is faster and easier to use than anything on the market. Pedro believes that these kinds of testimonials point out the profit potential of the product. However, he still needs to get financial support. One of Pedro’s friends has suggested a meeting with a venture capitalist. “These guys have all sorts of money to invest for new ventures,” the friend told Pedro. “All you have to do is explain your ideas and sell them on giving you the money. They are always looking to back a profitable idea, and yours is certain to be one of the best they have seen in a long time.” Pedro agrees with his friend but believes he should not discuss the matter with a venture capitalist until he has thought through answers to the various types of questions likely to be asked. In particular, Pedro believes he should be able to provide the venture capitalist with projected sales for the first three years and be able to explain the types of expenses that would be incurred. Once he has done this, Pedro feels that he will be ready to talk to the individual. “Right now,” he tells his friend, “it’s just a matter of time. I think that, within seven to ten days, I’ll be ready to present my ideas and discuss financial needs.” QUESTIONS 1. In addition to financial questions, what other questions is the venture capitalist likely to ask Pedro? In addition to financial questions, a venture capitalist (VC) may ask Pedro the following: • Market Analysis: What is the target market for the software? Who are the competitors, and how does Pedro’s product compare? • Marketing Strategy: How does Pedro plan to market and sell the software? What are his pricing strategies? • Product Development: What is the current status of the software? Are there any future enhancements planned? • Team and Expertise: Who else is involved in the project? What are their qualifications and roles? • Business Model: How will the business generate revenue? What is the expected growth rate? • Risks and Challenges: What potential challenges does Pedro foresee in the development and marketing of the software? • Exit Strategy: What is Pedro’s plan for the investor to realize a return on their investment? Is there a plan for acquisition or IPO? 2. Would a business plan be of any value to Pedro? Why or why not? Yes, a business plan would be of significant value to Pedro for several reasons: • Structured Approach: It provides a structured way to outline the business concept, market analysis, operational plan, and financial projections, helping Pedro clarify his ideas. • Communication Tool: A well-prepared business plan serves as a communication tool to effectively convey Pedro’s vision and strategy to potential investors and stakeholders. • Risk Mitigation: By identifying potential risks and challenges, Pedro can develop strategies to mitigate them, showing investors he has thought through the business’s viability. • Financial Forecasting: It allows Pedro to develop realistic financial projections, helping him better understand the funding required and potential return on investment. • Professionalism: A comprehensive business plan demonstrates professionalism and preparedness, enhancing credibility with venture capitalists. 3. How would you recommend Pedro get ready for his meeting with the venture capitalist? Be complete in your answer. To prepare for the meeting with the venture capitalist, Pedro should take the following steps: 1. Develop a Comprehensive Business Plan: • Outline the product, market analysis, competitive landscape, marketing strategies, operational plans, and financial projections. • Include detailed expense forecasts and revenue models for the first three years. 2. Prepare a Pitch Deck: • Create a concise presentation summarizing key points from the business plan. This should include visuals, such as graphs and charts, to make data more engaging. • Practice delivering the pitch to ensure clarity and confidence. 3. Conduct Market Research: • Gather data on the target market size, growth trends, and competitor offerings to support his claims about the software's market potential. • Understand customer needs and preferences to demonstrate how his software addresses them. 4. Anticipate Questions: • Prepare responses to likely questions from the VC regarding financials, market strategies, potential challenges, and the overall business model. • Consider conducting mock interviews with friends or mentors to practice answering questions. 5. Outline the Use of Funds: • Clearly specify how the venture capital funds will be used, including development, marketing, and operational costs. • Highlight the expected impact of the funding on growth and profitability. 6. Establish Clear Goals: • Define clear, realistic goals for the meeting, such as securing funding, gaining feedback, or establishing a relationship with the VC. • Be ready to discuss next steps following the meeting. By thoroughly preparing these elements, Pedro will be positioned to effectively communicate his vision, demonstrate the potential of his product, and secure the necessary funding from the venture capitalist. Solution Manual for Entrepreneurship: Theory, Process, and Practice Donald F. Kuratko 9781305576247
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