This is a guest post by Kostas Papadakis, Partner at HBPO (www.hbpo.gr). HBPO is a Service Partner for startups in The Accelerator program of Metavallon.
As a startup company there are a lot of challenges that you need to deal with. In fact, coming up with a great idea for a product or a service is the least for your worries. It far from guarantees that you will be next Google or Facebook, or that you will find investors, or even that your startup will be able to survive. Monitoring the business side of the startup and knowing where you are on the way is critical, both for your efforts and for your communication with partners and investors. And there is a concrete way to do this: financial indicators.
So what are the most important financial indicators? Those that will help you run your new company, confidently pitch to new and existing investors, be ahead of the competition, and eventually move on from startup status to an established company?
From my practice in dealing with startup companies, there are certain basic points that you must be fluent in and the majority of them revolve around cash. After all, companies do not go bankrupt because they are not profitable; they go bankrupt because they run out of cash.
- Know your ‘runway’. In simple words, you should know how much time is left before you run out of money. The runway is calculated by dividing your cash over your burn rate. Tracking your runway also helps identify how much money you need for next financing round.
- Understand you cash flow and burn rate. This indicator tells you how quickly you are burning existing cash and how fast you are replenishing cash reserves. You can also say the burn rate is your average monthly cash outflows. It gives you and your investors an idea of how much you spend in a given month. To calculate it you need to divide your total cash outflows year-to-day by number of month passed. For example, if in ten months you had consumed $100,000, your burn rate would be approx. $10,000 ($100,000 divided by ten months and rounded off). Your runway indicator and burn rate helps you to plan for the next financing round.
- Monitor and manage your working capital. Working capital is the cash needed to pay for the day to day operations of the business. For example: pay suppliers, pay for inventory, allow for trade debtors. It is calculated by deducting your current liabilities (liabilities that need to be repaid within a year) from the current assets (assets that can be turned into cash within one year). You need to actively manage the timing of cash inflows and outflows to achieve a sustainable business.
- Make sure the numbers add up. Nothing can be worse for potential and current investors than not being able to meaningfully explain what the assumptions behind your budget figures are. If you want to win over investors make sure that you can confidently explain any number and your reasons for making specific assumptions. Be prepared for investors to start tracing where every revenue dollar comes from and then meticulously challenge every expense it takes to generate that revenue. The same applies to budgets variances – deviations between budgeted numbers and actuals.
- Track volume or subscribers growth. Irrespective of the business, without customers your business isn’t really a business. If you are an internet company tracking subscribers’ growth is extremely important. If you are in manufacturing – tracking volume growth is the equivalent.
- Assess your customer acquisition cost (CAC). It is not simply enough to track your customers growth. What you also need to understand is how much you are investing in acquiring each new customer. Your CAC is the amount of money you need to spend (e.g. in marketing) to gain a new customer. It is simple to calculate, but the result might surprise you.
To sum up, the startup stage of a company is trully a roller coaster
One moment you are up, the next one – you are down. It is filled with unpredictable challenges. And most likely, it will take a lot of spending and running at a loss before any glimpse of profitability. Therefore, I believe for you, as a founder, it is so important to focus on what you do best: breed your idea. You need to develop a sustainable commercial business model around your idea, sell it, and monitor the progress on a daily basis while further perfecting it. Realistically, you do not have time to bury yourself in financial calculations and accounting processes. And if you do, then something is wrong… You are not focusing on your core business idea.
On the other hand, ensuring that key financial processes are in place can become a decisive factor if you make it or not. Having a seasoned executive team including a CFO is also very positively perceived by investors. However, it is likely that as a startup you cannot afford full-time executive CFO to manage all your financials. And there is no need for it as your financial processes should be very lean and focus only on key activities. To balance the two, a solution could be to hire a part-time finance professional with experience to manage your financials as well as to represent you in front of investors and other stakeholders.Kostas Papadakis is a partner of HBPO, a financial services firm, providing a complete suite of financial and accounting services to companies at every stage of the development process. He’s a financial expert, providing outsourced CFO services and helping business owners to focus on what they do best. Follow HBPO @HBPO_GR.