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By The Number

One of the major challenges of starting a business is finding the capital to get the doors open. What is equally important-and often overlooked-is the need for sufficient cash reserves with which to operate the business until it begins to generate revenue. Opening your doors with no money in the bank could mean you won't stay open for long. But how much money do you need?

To find out, you must formulate cash flow projections. These will help you determine how much money you need to operate until your business begins to turn a profit, and whether or not you can truly afford to start the business you've planned. Effective cash budgeting often makes the difference between staying in business and being forced into bankruptcy.

Your cash flow projections are more than internal worksheets. Bankers want to see evidence that you can cover your costs, pay yourself a livable wage (unless you have a separate income), and still meet your repayment obligations. Investors look for similar proof, depending on the details of their arrangement with you. However, don't confuse a cash flow projection with a profit and loss projection. The issue of cash needs has virtually nothing to do with profitability; it's simply a matter of tracking and managing the money coming in and going out. Bottom-line profitability and the ability to pay bills as they come due do not necessarily go hand-in-hand. Though cash flow statements are a critical management tool, they do not necessarily measure operating results. In fact, you may be on a strong growth track and still run into trouble because of insufficient cash.

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This article was originally published in the May 1996 print edition of Entrepreneur with the headline: By The Number.

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