Why You Need Financial Projections to Get a Cannabis License
A business plan and financial projections are necessary financial documents in applying for and securing a cannabis license. These documents are not only essential in applying for your license, but will also serve as the roadmap and compass for the future of your business.
In this article, we will discuss the importance of financial projections for cannabis businesses, and why a thorough forecasting model is one of the keys to obtaining your cannabis license.
Pro Forma for Cannabis Businesses
Financial forecasting is an essential piece of your cannabis license application, equally so are your pro forma financial statements.
What are pro forma statements?
"Pro forma" is something you may have heard of in industry-speak, but few new businesses realize how critical these financial statements are for the current and future state of your cannabis business. It is a set of documents that demonstrates how your business will use its funding to put the company in an advantageous, profitable financial position.
For current and prospective cannabis operations, pro forma documents are a requisite piece of the application process. For future investors and partners, your pro forma illustrates and justifies the amount of capital your company may need to raise. Pro forma documents include:
- Income Statement: Also referred to as your business Profit and Loss Statement or "P and L."
- Balance Sheet: Reports your cannabis business's assets, liabilities, and shareholder’s equity over a set reporting period.
- Statement of Cashflow: Reports on the net cash coming into and out of your cannabis operation.
- Sources and Uses of Funding: Identifies funding sources, precise amounts of funding, and uses of funds.
If you are interested in learning more about the key structure and function of pro forma statements for cannabis business licenses, you can learn more on our website here.
Benefits of Financial Projections for Cannabis Businesses
Financial forecasting is the process of predicting financial performance for a future period, in a variety of different scenarios. Financial forecasting models can help cannabis operators and businesses map out their business's trajectory, with projections and assessments that are based on any and all market, regulatory, and business data (current or historical) that they have access to.
Your cannabis license application will require both a detailed, comprehensive business plan as well as financial forecasts to be successful in getting approved licensure.
Post-licensure, your financial forecasting model should serve as the go-to projective tool for your business, and will help you:
- Manage cash flow
- Plan for revenue and price fluctuations
- Track and benchmark your business's performance
Financial Forecasting: Helps You Manage Cashflow in Your Cannabis Business
Data-driven projections will help you manage cash flow through various sales, expense, market, and regulatory scenarios your business may face down the line.
Tracking your cash flow will give you better control of it, making sure you are always aware of every penny that's coming in and out of your business.
Financial Projections: Help Predict and Plan for Revenue and Price Fluctuations
One of the biggest pitfalls for new cannabis operators is that their financial projections only reflect the best-case scenario.
In our industry, sales are rarely static.
Everything from weekly to seasonal sales and pricing fluctuations along with other factors like changes in:
- Legal regulations
- The competitive environment in your market
- The global economy
- Climate, natural disasters, societal disruption, and other impossible-to-predict events
These events make it difficult for businesses to predict their business revenue and costs, as well as how much operating capital they will need on-hand, at any given time.
Understanding the pricing trends in the industry, as well as product and material supply and demand, can help you anticipate potential risks and opportunities in your local cannabis market. In addition, a reliable forecasting model should plan for stockpiling a certain amount of operating capital during peak sales, so you can weather high costs, down markets, and other challenging factors, in the future.
Using your Operating Budget as a KPI
Financial projections give you the ability to use your operating budget as a key performance indicator for how your business is doing. Referring to the operating budget regularly is one of the simplest and most viable ways to track progress toward your goals.
It will help you identify and track high and low sales periods, as well as dips and booms in business costs. Your operating budget is something you should use to track year-over-year performance, adjust expectations when necessary, and make better predictions and plans for the future.
Building Better Financial Projections for Cannabis Businesses
Here are some key components of a sound financial forecast, and why you should incorporate these factors into your projections.
Start with Your Expenses
Planning for and managing expenses is arguably the most important aspect of managing cash flow in your cannabis operation. It's critical that you lay out accurate projections that depict and justify all of your business's current and future expenditures.
Your forecast should include all of your expected fixed and variable expenses. This may include the cost of supplies, raw goods, labor costs (salaries), marketing activities, advertising, annual legal fees, insurance, rent or mortgage payments for retail space leases, and utilities. All of your business expenses should be mapped out on a monthly basis to track financial progress against operational goals.
A common rule of thumb is to keep enough capital reserves saved to cover three months for all expenses at your location, including payroll. Having a cushion for business expenses helps provide peace of mind when handling challenging market situations dealing with price volatility, increased competition, changing consumer preferences, seasonality, etc.
*Note: How a cannabis business projects and manages its expenses is often the strongest predictor and indicator for the success or demise of any business.
Map Different Business and Sales Scenarios
Your financial forecasts should incorporate projections for a variety of different sales scenarios. We often recommend you create projections for the:
- A less-than-ideal sales scenario.
- A most-likely scenario.
- And an optimistic performance scenario.
Planning for different contingencies and revenue predictions shows your state licensor as well as future investors and partners that you aren't just leaning on a "hope for the best" scenario, and that you’re taking other, less-desirable sales and market outcomes into consideration.
Analyze Comparable Cannabis Businesses to Make More Accurate Projections
Consider a cannabis business in the same geographical region with a similar operational footprint, structure, and market as your business.
It is helpful to compare financials or approximate financials, such as sales and operating expenses, to the best of your ability. Use that as a reference for financial projections for your cannabis business.
This information will help you set more achievable, realistic goals given what is already happening with similar-sized businesses in your area.
Reference and Reevaluate your Financial Model Regularly
Any number of factors, at any given time, can make gradual or immediate changes in your market, and generate minuscule-to-seismic shifts in the cannabis industry.
Just as the market changes, so should your model.
Think of your forecasting and business plan as an evolving tool or a living document that you'll likely need to adjust, tweak, and reevaluate as you go.
Reference your financial forecast regularly –– at least quarterly, and more often if necessary and applicable. Your forecasts and business plans are important tools for virtually every aspect of your business, which is why you should reference them regularly and adjust expectations when necessary.
Other Considerations for Creating a Financial Forecast for Your Cannabis Business
Factor Seasonality into Your Financial Projections
One major factor that many cannabis business projections don't account for is seasonality in business operations.
The cannabis industry, like other industries, tends to have some predictable seasonal patterns. Understanding these trends will help you plan effectively so that your budget reflects realistic revenue prospects during different times of the year.
Accounting for Regular Bouts of Sales Fluctuations
Projecting seasonality is an important piece of reliable financial forecasting, as are planning for more regular fluctuations on a daily, weekly, and monthly basis.
Your model and revenue projections should reflect sales fluctuations that you see through the week. For example, retail locations and dispensaries may account for having slower sales Monday-Wednesday or Thursday, with sales increasing throughout the weekend.
Consider the Growth Rate of Your Local or State Market
Your local or state market growth rate will inevitably have a direct and noticeable impact on your sales. More mature markets like California, Colorado, or Washington State are going to have more incremental, stable, and predictable growth cycles than states that have newly legalized adult-use cannabis.
Depending on regulations, implementations, and a variety of other legal and market factors –– we have historically seen new legalization states will see massive booms in sales, business growth, and local expansion, early on.
Keep in mind, these projections should also take into account less obvious or uncertain future factors like the market share your cannabis operation occupies as you and your competition grow and expand.
Marketing and Advertising Plans and Initiatives
Strategic marketing and advertising campaigns are effective ways to drive sales to your business and boost revenue. If this is your first time estimating the impact a marketing or advertising campaign will have on your sales, you may feel like you're shooting in the dark. Nonetheless, you should factor in some degree of sales growth in those projections.
For example, say you launch a limited-time coupon or coupon code with your first digital or physical marketing campaign. You will want to track your redemptions and results so that you have a better idea of how to project your sales the next time you launch a campaign.
Expect the Unexpected: Natural Disasters, Pandemics, and the Like
It is nearly impossible to project the impact that an unforeseen virus or pandemic would have on the cannabis business or our economy. COVID-19 pushed businesses around the globe to question "what can we be doing now to better prepare for another event like this in the future?"
Natural disasters like tornadoes, hurricanes, storms, floods, and seasonal fires can also easily shut down your cultivation, manufacturing, distribution, or retail operation. Plan accordingly so you have a safety net of business savings and capital to help you weather challenging and unpredictable events.
Financial Projections Help Account for Future Increases in Taxes
If you make financial projections for your cannabis business, it will be easier to account for increases in taxes. Taxes are likely going up as the industry becomes legal and more states legalize adult-use cannabis use across the country.
As such, this is one of many key points that should be covered on a cannabis business plan before applying for any licenses or permits from state agencies.
Having financial forecasts makes it easier for your business to adjust budgets when needed, rather than being caught off guard by an unforeseen hike in taxes down the line. Seeing increases in taxation on the consumer end is commonplace in our industry, and can result in declining sales for cannabis operators.
When projecting future revenues, there needs to be an understanding of what kind of prices consumers are willing to pay in light of increasing costs associated with the unique oversight and regulatory challenges in our industry.
Getting Started: Cannabis Business Financial Projections
Financial projections for your cannabis operation are not only necessary for winning your cannabis license, they are critical for the growth and success of your business. Building a financial forecasting model is both an art and a science. It should aim to be an exhaustive plan that takes into consideration a variety of different regulatory, market, environmental, social, and sales factors.
Our accountants and finance experts exclusively work with businesses in the cannabis industry and have helped dozens of cannabis operators put together the materials they need for applying for and securing a cannabis license.
Contact us at +1-800-674-9050 or on our website so we can help you put together your pro format and financial projections.