SBIR - Pro Forma Review

Jon Sienkowski DAWNBREAKER October, 2014

Examples of Real Income Statements “Good, the Bad and…the not especially persuasive”

Follow on presentation to the earlier webinars presented by Jon Sienkowski

• Understanding Financials for Companies Licensing Technology – August

• Understanding Financials for Companies Manufacturing Products/Software or Providing Services – August

Previous Financial Presentations

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Topics covered then…

•  DOE guidelines •  Importance of documenting and

validating assumptions •  Considerations for developing financials •  Elements of a financial package and

accepted formats •  Management use of financials •  Licensing considerations

Topics covered today… •  Pro Forma Definition •  Importance of documenting and validating

assumptions •  DOE reviewers use of financials •  “Reasonableness” of financials:

– Assumptions – Financial Ratios

•  Review of Licensing Income Statement •  Review of Manufacturing Income Statement

– What is a “Pro Forma” statement

–  It is a financial statement that… “Indicates hypothetical financial figures based on previous business operations for estimating purposes”

– Type of industry & structure matters: •  Hardware vs. Software •  Biomedical vs. Microchips •  Manufacturing vs. Licensing

Pro Forma Financial Statements

What are DOE Reviewers expecting?


•  Well documented assumptions –  Baseline market size and target market (F&S report, other) –  Revenue levels based on new technology introduction –  Price levels that are “market based” –  Market shares consistent with coverage strategy


•  Well documented assumptions –  Baseline market size and target market –  Revenue levels based on new technology –  Price levels that are “market based” –  Market shares consistent with coverage strategy

•  Financial ratios that are reasonable –  Revenue build-up that builds-up gradually –  Gross margins typical of a start-up venture –  Net profit margins below a mature industry ratio

“Hockey Stick”


•  Well documented assumptions –  Baseline market size and target market –  Revenue levels based on new technology –  Price levels that are “market based” –  Market shares consistent with coverage strategy

•  Financial ratios that are reasonable –  Revenue build-up that builds-up gradually –  Gross margins typical of a start-up venture –  Net profit margins below a mature industry ratio

•  Competitively benchmarked assumptions

“Hockey Stick”

– View the technology as a stand alone Strategic Business Unit (SBU).

– Develop the financials as an incremental approach over baseline business

– Fully document financial assumptions

Financial Baseline

Document Key Assumptions Assumptions Accompanying Financials

Market Market size should tie back to your narrative "Market Size and Growth" estimates in your Commercialization Plan and be backed by solid market research.

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Revenue

Generally, DOE is looking for a "bottoms-up" forecast that is based on your innovative technology and competitive price level. Unit pricing should be benchmarked off of existing price levels and expected trends.

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Revenue Generally, DOE is looking for a "bottoms-up" forecast that is based on your innovative technology and competitive price level. Unit pricing should be benchmarked off of existing price levels and expected trends.

Manufacturing

Developing a manufacturing operation is a major undertaking. Many SBIR firms are relatively small vs. existing competitors. Consideration should be given to partnering with an established manufacturing competitor that is looking to expand its product line with the technology being developed by your company.

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Manufacturing


Licensing

Licensing is a viable way to enter the market with less capital expense and lower start-up cost. Additionally, it is a more rapid way to gain market share through a marketing partner that has sales experience. Document licensing structure, royalty percentage assumptions.

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Manufacturing


Licensing Licensing is a viable way to enter the market with less capital expense and lower start-up cost. Additionally, it is a more rapid way to gain market share through a marketing partner that has sales experience. Document licensing structure, royalty percentage assumptions.

Expenses

Whether you license your technology or pursue direct manufacturing, you will need to have sufficient sales, support and General and Administrative (G&A) costs consistent with your activity. Bottom up estimates are best.

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Manufacturing


Licensing Licensing is a viable way to enter the market with less capital expense and lower start-up cost. Additionally, it is a more rapid way to gain market share through a marketing partner that has sales experience. Document licensing structure, royalty percentage assumptions.

Expenses Whether you license your technology or pursue direct manufacturing, you will need to have sufficient sales, support and G&A costs consistent with your activity. Bottom up estimates are best.

Net Income It is the norm to have losses up front and a low profit margin as you establish your product in the market 16

Growth & profit measures –  Market size and market share –  Percent sales growth –  Royalty percentage (licensing) - as % of revenue or EBIT –  Gross profit margin (manufacturing): (Revenue – COGS) /

Revenue –  Operating margin: (Revenue – COGS – Operating expenses) /

Revenue •  Also EBIT / Revenue

–  Net income as % of revenue –  Percent earnings growth

Financial Ratios – Income Statement

Growth & profit measures –  Market size and market share –  Percent sales growth –  Royalty percentage (licensing) - as % of revenue or EBIT –  Gross profit margin (manufacturing): Revenue – COGS / Revenue –  Operating margin: Revenue – COGS – Operating expenses /



Expense measures –  Cost of Goods Sold – COGS (manufacturing) as % of revenue –  Sales & Marketing as % of revenue –  General & Admin (G&A) as % of revenue –  R&D as % of sales revenue


Often referred to as SG&A

Growth & profit measures –  Market size and market share –  Percent sales growth –  Royalty percentage (licensing) - as % of revenue or EBIT –  Gross profit margin (manufacturing): Revenue – COGS / Revenue –  Operating margin: Revenue – COGS – Operating expenses /



Expense measures –  Cost of Goods Sold – COGS (manufacturing) as % of revenue –  Sales & Marketing as % of revenue –  General & Admin (G&A) as % of revenue –  R&D as % of sales revenue

=> Familiarize yourself with industry norms for financial ratios


Often referred to as SG&A

Templates on elearning website

http://www.dawnbreaker.com/elearning/

Licensing

– Low cost, MEMS-based technology •  Isolator - MEMS Piezoelectric Transformer •  Volume fabrication: Unit Cost < $3.00

– Three potential commercial licensees identified •  Planning license fee between 5% - 10% of revenue •  Considering an exclusive license to one partner •  ARL interested in technology as a “micro power” supply

– Market of substantial size – growing rapidly •  $1.2 Billion market (2011); growing rapidly @ 12% CAGR •  Third year market share of 10% = $190M licensee sales

Semiconductor: License Example

Revenue flow: •  Market size?

Licensing Example - Revenue Phase II (2011)

Phase II (2012) 2013 2014 2015

Served available Market size ($000)

$1,200,000 $1,344,000 $1,505,280 $1,685,914 $1,888,223 Rate Market growth

12% 12% 12% 12% 12%

Sales (Revenue) base for licensing($dollars) $0 $0 $15,000,000 $84,000,000 $190,000,000

Market share - total market 0.0% 0.0% 1.0% 5.0% 10%

Royalty % 10.0% 10.0% 10.0% 10.0% 10.0%

Company Revenues Royalties

0 0 1,500,000 8,400,000 19,000,000 Consulting or after sale services

0 0 20,000 50,000 70,000

SBIR/STTR Contract R&D 500,000 500,000 0 0 0

Total Revenue $500,000 $500,000 $1,520,000 $8,450,000 $19,070,000

Licensing Example - Revenue Revenue flow: •  Market size? •  Market growth ?

Phase II (2011)

Phase II (2012) 2013 2014 2015



12% 12% 12% 12% 12%



Royalty % 10.0% 10.0% 10.0% 10.0% 10.0%



0 0 20,000 50,000 70,000


Total Revenue $500,000 $500,000 $1,520,000 $8,450,000 $19,070,000

Licensing Example - Revenue Revenue flow: •  Market size? •  Market growth ? •  One partner?

Phase II (2011)

Phase II (2012) 2013 2014 2015



12% 12% 12% 12% 12%



Royalty % 10.0% 10.0% 10.0% 10.0% 10.0%



0 0 20,000 50,000 70,000


Total Revenue $500,000 $500,000 $1,520,000 $8,450,000 $19,070,000

Licensing Example - Revenue Revenue flow: •  Market size? •  Market growth ? •  One partner? •  Royalty @ 10 %

Phase II (2011)

Phase II (2012) 2013 2014 2015



12% 12% 12% 12% 12%



Royalty % 10.0% 10.0% 10.0% 10.0% 10.0%



0 0 20,000 50,000 70,000


Total Revenue $500,000 $500,000 $1,520,000 $8,450,000 $19,070,000

Licensing Example - Revenue

Revenue flow: •  Market size? •  Market growth ? •  One partner? •  Royalty @ 10 % •  Consulting ?

Phase II (2011)

Phase II (2012) 2013 2014 2015



12% 12% 12% 12% 12%



Royalty % 10.0% 10.0% 10.0% 10.0% 10.0%



0 0 20,000 50,000 70,000


Total Revenue $500,000 $500,000 $1,520,000 $8,450,000 $19,070,000

Licensing Example- Expenses Market Phase II

(2011) Phase II (2012) 2013 2014 2015

End User Sales $15,000,000 $30,000,000 $190,000,000

Total Revenue $500,000 $500,000 $1,520,000 $8,450,000 $19,070,000

Expenses Licensing & Royalties

? ? ? Sales

0 0 0 0 0

Marketing 0 0 $15,000 $20,000 $25,000

Cost of services 0 0 $55,000 $40,000 $35,000

Administrative (G&A) 0 0 $30,000 $35,000 $40,000

SBIR R&D $500,000 $500,000

Internal R&D 0 0 $50,000 $60,000 $70,000

Legal 0 $0 $5,000 $5,000 $5,000 Facilities

0 0 $10,000 $10,000 $10,000 Total Expenses

$500,000 $500,000 $165,000 $170,000 $185,000

Expenses: •  Royalty expenses?

Licensing Example- Expenses Expenses: •  Royalty expenses? •  Sales expense?

Market Phase II (2011)

Phase II (2012) 2013 2014 2015

End User Sales $15,000,000 $30,000,000 $190,000,000

Total Revenue $500,000 $500,000 $1,520,000 $8,450,000 $19,070,000


? ? ? Sales

0 0 0 0 0

Marketing 0 0 $15,000 $20,000 $25,000

Cost of services 0 0 $55,000 $40,000 $35,000


SBIR R&D $500,000 $500,000

Internal R&D 0 0 $50,000 $60,000 $70,000


0 0 $10,000 $10,000 $10,000 Total Expenses

$500,000 $500,000 $165,000 $170,000 $185,000

Licensing Example- Expenses Expenses: •  Royalty expenses? •  Sales expense? •  Marketing expense


Phase II (2012) 2013 2014 2015

End User Sales $15,000,000 $30,000,000 $190,000,000

Total Revenue $500,000 $500,000 $1,520,000 $8,450,000 $19,070,000


? ? ? Sales

0 0 0 0 0

Marketing 0 0 $15,000 $20,000 $25,000

Cost of services 0 0 $55,000 $40,000 $35,000


SBIR R&D $500,000 $500,000

Internal R&D 0 0 $50,000 $60,000 $70,000


0 0 $10,000 $10,000 $10,000 Total Expenses

$500,000 $500,000 $165,000 $170,000 $185,000

Licensing Example- Expenses Expenses: •  Royalty expenses? •  Sales expense? •  Marketing expense? •  G&A? CEO, COO, Admin, etc?


Phase II (2012) 2013 2014 2015

End User Sales $15,000,000 $30,000,000 $190,000,000

Total Revenue $500,000 $500,000 $1,520,000 $8,450,000 $19,070,000


? ? ? Sales

0 0 0 0 0

Marketing 0 0 $15,000 $20,000 $25,000

Cost of services 0 0 $55,000 $40,000 $35,000


SBIR R&D $500,000 $500,000

Internal R&D 0 0 $50,000 $60,000 $70,000


0 0 $10,000 $10,000 $10,000 Total Expenses

$500,000 $500,000 $165,000 $170,000 $185,000

Licensing Example- Expenses Expenses: •  Royalty expenses? •  Sales expense? •  Marketing expense? •  G&A? CEO, COO, Admin, etc? •  R&D – what happens to engineering? •  License legal expenses?


Phase II (2012) 2013 2014 2015

End User Sales $15,000,000 $30,000,000 $190,000,000

Total Revenue $500,000 $500,000 $1,520,000 $8,450,000 $19,070,000


? ? ? Sales

0 0 0 0 0

Marketing 0 0 $15,000 $20,000 $25,000

Cost of services 0 0 $55,000 $40,000 $35,000


SBIR R&D $500,000 $500,000

Internal R&D 0 0 $50,000 $60,000 $70,000


0 0 $10,000 $10,000 $10,000 Total Expenses

$500,000 $500,000 $165,000 $170,000 $185,000

Licensing Example- Income Income: •  Net income •  As % sales? •  Too rapid, assumptions do not back up numbers sufficiently •  Lose credibility


Phase II (2012) 2013 2014 2015

End User Sales $15,000,000 $30,000,000 $190,000,000

Company Revenue $500,000 $500,000 $1,520,000 $8,450,000 $19,070,000

Total Expenses $500,000 $500,000 $165,000 $170,000 $185,000

Income Before Tax (EBIT) $0 $0 $1,355,000 $8,280,000 $18,885,000 Tax rate

35% 0% 35% 35% 35%

Taxes $0 $0 $474,250 $2,898,000 $6,609,750

Net Income $0 $0 $880,750 $5,382,000 $12,275,250

Net income as %/sales

0% 0% 58% 64% 64%

Licensing Revised - Revenue Market (000)

Phase II (2011)

Phase II (2012) 2013 2014 2015


$300,000 $345,000 $396,750 $456,263 $524,702 Rate Market growth

15% 15% 15% 15% 15%


Market share - total market 0.0% 0.0% 1.3% 2.0% 4.0%

Royalty % 0% 0% 5% 5% 3%


0 0 250,000 450,000 636,000 Consulting or after sale services

0 0 500,000 125,000 500,000


Total Revenue $500,000 $500,000 $750,000 $575,000 $1,136,000

Revised Revenue: • Revised Market

Niche • Exclusive license for

2 years • Add 2nd licensee in

2015 • Revised Royalty % • Both manufacturing

and sales support

Licensing Revised Expenses Revised Expenses: •  R&D spending

shifted to Licensing support

•  Business development head added

•  G&A reflects added staff

•  Legal & Facilities scale up


Phase II (2012) 2013 2014 2015

End User Sales $5,000,000 $9,000,000 $21,200,000

Total Revenue $500,000 $500,000 $750,000 $575,000 $1,136,000


$52,500 $40,250 $79,520 Sales

0 $100,000 $100,000 $150,000 $150,000

Marketing 0 $25,000 $50,000 $75,000 $100,000

Cost of services 0 0 $300,000 $75,000 $300,000


SBIR R&D $500,000 $500,000

Internal R&D 0 0 $200,000 $200,000 $200,000

Legal 0 $15,000 $50,000 $15,000 $40,000 Facilities

0 0 $25,000 $25,000 $25,000 Total Expenses

$500,000 $640,000 $877,500 $730,250 $1,094,520

Licensing Revised- Income


Phase II (2012) 2013 2014 2015

End User Sales $5,000,000 $9,000,000 $21,200,000

Company Revenue $500,000 $500,000 $750,000 $575,000 $1,136,000

Total Expenses $500,000 $640,000 $877,500 $730,250 $1,094,520

Income Before Tax $0 ($140,000) ($127,500) ($155,250) $41,480

Tax rate 35% 0% 0% 0% 35%

Taxes $0 $0 $0 $0 $14,518

Net Income $0 ($140,000) ($127,500) ($155,250) $26,962

Net income as %/sales

0% -28% -17% -27% 2%

Revised Income: •  Marketing and

sales critical expenses

•  Breakeven by 2015

•  Will need to find sources of investment to make up for shortfalls

DOE SBIR Funding: Years 0 -‐ 2 PH I PHII -‐ Year 1 PHII -‐ Year 2

0 1 2 ($ in1000s) Year 2010 2011 2012 SBIR Funding $150 $500 $500

Discount Rate 15.0% 15.0% Discount factor 0.93 0.80

Net Present Value (NPV) $150 $464 $400

Market size PHII - Year 1 $300,000 Market growth rate 15.0% First year of commercial sales: 2013

Ten Year Revenue Projec>on: Years 3 -‐ 12 3 4 5 6 7 8 9 10 11 12

($ in1000s) Year 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022 Market Size $396,750 $456,263 $524,702 $603,407 $675,816 $756,914 $832,605 $890,888 $935,432 $982,204 Market growth rate 15.0% 15.0% 15.0% 15.0% 12.0% 12.0% 10.0% 7.0% 5.0% 5.0% Market Share 1.3% 2.0% 4.0% 6.0% 8.0% 10.0% 10.0% 10.0% 10.0% 10.0%

Gross Revenues mfg/licensee $5,000 $9,000 $21,200 $36,204 $54,065 $75,691 $83,261 $89,089 $93,543 $98,220

Royalty rate 5% 5% 3% 3% 3% 3% 3% 3% 3% 3% Consulting fees $500 $125 $500 $500 $200 $0 $0 $0 $0 $0

Gross Revenues Licensing $750 $575 $1,136 $1,586 $1,822 $2,271 $2,498 $2,673 $2,806 $2,947

Operating Margin -‐17% -‐27% 4% 45% 70% 70% 70% 70% 70% 70% Operating ProLits -‐$128 -‐$155 $42 $714 $1,275 $1,590 $1,748 $1,871 $1,964 $2,063

Discount Rate 15.0% 15.0% 15.0% 15.0% 15.0% 15.0% 15.0% 15.0% 15.0% 15.0% Discount factor 0.69 0.59 0.51 0.44 0.38 0.33 0.28 0.24 0.21 0.18

Net Present Value (NPV) -‐$88 -‐$92 $21 $314 $484 $520 $492 $454 $411 $371

Project NPV and Investment Mul>ple Cumulative NPV 10yr ProLits:

$2,888

Cumulative NPV SBIR funding $1,014

Project NPV $1,874

DOE Investment Mul>ple 2.8

DOE Investment Multiplier Investment multiplier worksheet should match pro formas in years where they overlap: • Market share, market size, royalty rate. • Operating margin = EBIT/Revenue • Operating profits = EBIT on proforma

DOE Investment Multiplier DOE SBIR Funding: Years 0 -‐ 2

PH I PHII -‐ Year 1 PHII -‐ Year 2 0 1 2

($ in1000s) Year 2010 2011 2012 SBIR Funding $150 $500 $500

Discount Rate 15.0% 15.0% Discount factor 0.93 0.80

Net Present Value (NPV) $150 $464 $400

Market size PHII - Year 1 $300,000 Market growth rate 15.0% First year of commercial sales: 2013

Ten Year Revenue Projec>on: Years 3 -‐ 12 3 4 5 6 7 8 9 10 11 12

($ in1000s) Year 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022 Market Size $396,750 $456,263 $524,702 $603,407 $675,816 $756,914 $832,605 $890,888 $935,432 $982,204 Market growth rate 15.0% 15.0% 15.0% 15.0% 12.0% 12.0% 10.0% 7.0% 5.0% 5.0% Market Share 1.3% 2.0% 4.0% 6.0% 8.0% 10.0% 10.0% 10.0% 10.0% 10.0%

Gross Revenues mfg/licensee $5,000 $9,000 $21,200 $36,204 $54,065 $75,691 $83,261 $89,089 $93,543 $98,220

Royalty rate 5% 5% 3% 3% 3% 3% 3% 3% 3% 3% Consulting fees $500 $125 $500 $500 $200 $0 $0 $0 $0 $0

Gross Revenues Licensing $750 $575 $1,136 $1,586 $1,822 $2,271 $2,498 $2,673 $2,806 $2,947

Operating Margin -‐17% -‐27% 4% 45% 70% 70% 70% 70% 70% 70% Operating ProLits -‐$128 -‐$155 $42 $714 $1,275 $1,590 $1,748 $1,871 $1,964 $2,063

Discount Rate 15.0% 15.0% 15.0% 15.0% 15.0% 15.0% 15.0% 15.0% 15.0% 15.0% Discount factor 0.69 0.59 0.51 0.44 0.38 0.33 0.28 0.24 0.21 0.18

Net Present Value (NPV) -‐$88 -‐$92 $21 $314 $484 $520 $492 $454 $411 $371

Project NPV and Investment Mul>ple Cumulative NPV 10yr ProLits:

$2,888

Cumulative NPV SBIR funding $1,014

Project NPV $1,874

DOE Investment Mul>ple 2.8

• Early years - bottom up estimates are best • Long term, financial ratios will trend toward industry norms • Market growth will likely not be sustainable

– Royalties for licenses may take different forms: •  Continuing royalties, lump sum, or prepayment •  Consulting is an important source of licensing revenue

Licensing Take Aways


– Royalty rates based on negotiations •  Generally based on gross sales to end user •  Royalty rates generally between 1% - 10% of sales revenue •  Rates differ by industry •  Be aware of the “25% rule” based on EBIT



– Royalty rates based on negotiations •  Generally based on gross sales to end user •  Royalty rates generally between 1% - 10% of revenue •  Rates differ by industry •  Be aware of the “25% rule” based on EBIT

–  Secure professional help in negotiating a License! •  Licenses can be time based, geographic or regional •  Be sure there is a minimum performance level •  Be careful granting an “exclusive license”


Manufacturing

– Small research firm •  Sampling materials to 2 potential customers •  Began working with manufacturing consultant •  Angel investor, potential investments from customers

– Road and roofing asphalt market being addressed •  Product can be used as additive to enhance performance or

as a direct replacement due to excellent material properties –  Initial process costs Investigated

•  Inexpensive precursor materials •  Scalable process requiring small investments

– Planning direct sales

Bioasphalt Manufacturing Example

Manufacturing Pro Forma

Revenue: Growth and Price

Manufacturing cost

Operating Expenses

Capacity to support year over year sales growth?

Capacity to support year over year sales growth? Priced at 2X manufacturing cost

Revenue"

No manufacturing cost beyond direct labor and materials (where are the energy costs, equipment maintenance costs, quality engineers, manufacturing engineers, procurement, materials handling, etc.?)

COGS"

Operating expenses too low compared to industry norms (SG&A/Revenue = 5.8%). How are such significant sales achieved in 2013?

Operating Expenses"

Manufacturing Pro Forma - Revised

Price based on value

Initial pilot sales

Performed analysis of additional manufacturing overhead (quality engineers, manufacturing engineers, procurement, materials handling, etc.)

Revised operating expenses - sales through distributors (20% of revenue), sales/marketing expenses incurred during Phase II, revised other expenses.

DOE Investment Multiplier

• Early years - bottom up estimates are best • Long term, financial ratios will trend toward industry norms

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Manufacturing Take Aways •  Be sure you have a workable marketing plan

– What is your coverage strategy (by segment)? – Do you have a compatible manufacturing plan?

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– What is your coverage strategy (by segment)? Do you have a compatible manufacturing plan?

•  Manufacturing requires money and skills – Start-up capital can be significant – Quality production is challenging – Very different from technology development!

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– What is your coverage strategy (by segment)? Do you have a compatible manufacturing plan?

•  Manufacturing requires money and skills – Start-up capital can be significant – Quality production is challenging – Very different from technology development!

•  Market viability and manufacturing credibility – Experience and reputation count! – A “better mouse trap” isn’t enough

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Sources of Ratios

•  finance.yahoo.com (look up company income statements) •  D&B – Industry Norms and key business ratios •  Robert Morris Associates – Annual Statement Studies •  S&P – Analyst Handbook •  FTC – Quarterly financial report •  BizMiner www.bizminer.com/about.asp

University sites •  https://www.library.ohiou.edu/subjects/businessblog/financial-

ratios/ •  http://newarkwww.rutgers.edu/guides/business/com-

ratios.htm •  https://www.lib.umn.edu/libdata/page_print.phtml?

page_id=1010

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Planning Take Aways

•  No one expects you to be a financial expert

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Planning Take Aways

•  No one expects you to be a financial expert •  Financials are a necessary part of planning

– Know what your audience is expecting – Assumptions are key and must be validated – Benchmark off of your industry

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Planning Take Aways

•  No one expects you to be a financial expert •  Financials are a necessary part of planning

– Know what your audience is expecting – Assumptions are key and must be validated – Benchmark off of your industry

•  Don’t be overwhelmed – Work with your Dawnbreaker BAM – Knowledgeable of DOE Reviewer’s expectations

Questions?

Jon Sienkowski Business Acceleration Manager

Please stay on to complete survey!

SBIR - Pro Forma Review

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