Financial projections. Why do startups need to prepare them? And why are they the least favourite task for most founders?
Why prepare financial projections?
The obvious answer might be that they’re needed to secure investment. And yes, that is one of the major reasons why startups need to put the numbers together. But they should also be used earlier than that to ask yourself if you even have a business to start with. So if you assume there are X number of customers the company can attract, and you think these customers would be prepared to pay €Y for the product/service, can this really be a business with the ability to scale?
Let’s assume that you believe you’re building something or have a service that enough people will use and hopefully pay for. You may decide that you need investment to help you along that road. That might be bank finance (good luck with that!), government support, venture capital or a combination of all of these. Whatever route you go, there’ll no doubt be an expectation that you prepare some numbers for them to look at.
The least favourite task for most founders
The old saying that ‘traction speaks louder than words’ has never been more true among investors today. They all want to see those first few customers actually using the product. Which means that a startup’s main focus is generally on building a great product and getting those first crucial people to use it. And rightly so. Just how many customers the company will have in month 27 or what the company will be spending on advertising in 31 months time, isn’t really high on founders’ priority list to start with. And in reality investors aren’t so much concerned about that either. Their main concern is that you’ve actually thought about these things. It’s as much about the assumptions (if not more so), as it is about the detailed 36 month projections. And taking that a step further, it’s about the ability for the founders to demonstrate that they have considered the impact of what changes to these assumptions will mean for the business. For example, if sales are only 50% of what we expect them to be, what does this mean for the cash requirement over the next 18 months? And what would this mean for staff numbers? Or if your conversion rates are only 1% instead of 3%, and the churn rate is actually 15%, what does this mean for your customer numbers and monthly revenues? Having the ability to stress the projections is key.
Having said that, preparing detailed financial projections is a necessary part of building a business, both from an internal monitoring perspective and an external investor requirement. The more time you spend on thinking about your assumption (eg how much you charge, what will the staffing requirements be to deliver the product, how much will it cost to acquire customers, etc), the better the output at the end will be. Building a profit and loss account or cash flow statement should not to be the only goal in the process. Being able to see what affect changes in the assumptions will have on the business should really be of equal importance.
So a bit of progress this week which is good. I got some more work done on building the financial projections in Excel. Solved some issues on showing as Cost of Sales (CoS). Decided to go with CoS rather than Cost of Goods Sold (CoGS) becase it’s more understandable, for the initial version anyway. But finally have it worked out in terms of what to include. I can only really suggest some of the headings that need to be included and leave enough scope for the individual using the app to use their own judgement of what to include. There are obviously some items that shouldn’t be included, eg rent, utilities, legal fees, but when it comes to support staff, it’s really up to the individual to decide whether they consider these to be a cost of sales. The underlying principle has to be about scaling. In other words, only include items that are needed as the business scales and acquires customers. Anyway, I’ll be giving guidelines on the page but it can be very subjective..
So I’ve got the forms completed for: General information, CoS, Staffing and Operating Expenses. Last part of the initial puzzle is the whole Sales side of it, which includes pricing, customer numbers, one-off payments v recurring, etc. To be honest it’s the most complicated aspect of the whole model, especially for tech companies, but I’m nearly there with it. This weekend should finish it off.
Meeting with a web development company tomorrow. They’ve already produced a wire frame (based on a very basic wire frame I did) which looks pretty cool. So I’m fairly sure they have the skills and experience to build this (and they come recommended). I’ll just have to see what the cost will be before making any final decisions.
And the next week will further refining the excel model, hopefully get work started on the development and getting to grips with the whole idea of the lean canvas. Lots to do.
There’s an old Tom Waits song called ‘What’s he building?’ from his 1999 Mule Variations album. It’s really about noisy American neighbours. I’m not one for keeping things a secret so I’ll just come out and say it: I’m going to build something. There, I’ve said it. Written in black and white for all to read (or at least for the 2 people who actually visit the site more than once). No turning back now.
So what am I going to build? Well it’s a web application for companies to build financial projections for business plans and to present to investors. The idea is to take away the heartache and frustration of preparing Excel-based financial projections for entrepreneurs who would, quite frankly, rather be off building something themselves or finding customers to sell to.
Now I like to think I know a thing or two about building a financial model, after all it’s what I do every day. I’ve worked with 60+ companies over the last 3 years, helping startups (and established companies) to build robust, flexible financial projections, and then use these projections to raise venture capital or investment from a government agency, like Enterprise Ireland. So I know first-hand that preparing financial projections is probably the least favourite element of the whole process of building a company for any entrepreneur.
But before I start building something (or at least getting someone to build it for me), I think I’d want to know the answer to the question: Is a web based application for preparing financial projections something that people want? So I thought I’d ask that very question of companies. Enter Survey Monkey. And it turns out that people actually would welcome such a product. Of the companies that responded to the survey, over 80% found them to be either frustrating, time consuming or they needed assistance with them. (There are more survey questions and answers but I’ll get to them in a later post I think.)
So how am I going to go about this? Well that’s a very good question. First thing I think I need to do is work out a road map for the project. I’ve already set a deadline and am ultimately aiming to have a beta version ready for use by September 2012. I’ll explain in a later post the reason for the deadline. That gives me exactly 12.5 weeks from today – 06 June 2012. Probably wildly optimistic but you gotta have some sort of deadline in mind, right?
I will be trying to do some work, however small, on the project each day and to chronicle the progress here. Really looking forward to it!
So The Lean Startup by Eric Ries is on order. Looking forward to reading it. I’ve been listening to Eric talk about the lean startup for a few years now so the book should be a great read. I’ve posted below a interview Eric did with Mark Suster a few weeks ago on ThisWeekIn…VentureCapital.
The thing is though, it was an Irish man who first started talking about failing fast and failing better many years ago now; not related to building great game-changing technology companies but still…
“Go on failing. Go on. Only next time, try to fail better.”
We’re pleased to announce that JHC is assisting yet another amazing startup company – iMedia Revenue, a company that provides Saas and in-office solutions for the news industry that both reduce operating costs and drive revenue to strengthen the news agency’s entire business, from publishing to advertising. With offices both in Ireland and the US, it’s truely an international company with a very promising future ahead.
You can check out the new section on the iMedia website here.
I was a guest on Today FM’s Sunday Business Show today (Sunday 2nd October), speaking to Conall O’Morain about where startup companies are getting investment from these days. A short interview (during the second half of the show) but great to get the opportunity to speak on-air about what the funding environment is like these days. Hope you find it informative.
Also on the show were Joanne Gillen of Bid Management (www.bidmanagement.ie), a tender management company and recent winner of the Dun Laoghaire-Rathdown CEB Awards and Ian Martin, Chairman of the Small Firms Association (www.sfa.ie).
I’ve recently been re-reading Jessica Livingston’s ‘Founders At Work – Stories of Startups’ Early Days’. If you haven’t already read it, then go get a copy. One of the interviews (there are 32 in total) is with Joe Kraus, who co-founded the search engine Excite in 1993 with 5 Stanford classmates. (As an aside, the Excite story from garage start-up to the dizzy heights of a $6.7 billion merger with @Home and back down to bankruptcy is a sad but telling story of the dotcom era – well worth checking it out on the web.) At the end of the interview, Joe points out that one of the important lessons he learnt from the Excite years is that you really need to ‘get the legs of the business underneath it before you run terribly fast’. And that got me thinking about the Startup Genome Project.
You see the stated goal of the Startup Genome Project is to increase the success rate of startups by turning entrepreneurship into a science. So it’s really about looking at the patterns of success and failure and understanding those patterns in terms of entrepreneurship. The original Startup Genome Report was released in May this year (get a copy of it here), but only last month the guys behind the project released an extra report on premature scaling (get a copy of it here), one of the major reasons high growth tech companies fail. It talks about the need to have the 5 core dimensions of a startup – customers, product, team, business model and financials – in balance and found that prematurely scaling along some dimension and progressing it out of sync with the rest of the company was evident among 70% of the startups they have gathered data on (they have data on more than 3,200 startups).
The key findings of the Premature Scaling Report
The team essentially came up with 12 findings from the research and analysis of all the data gathered. I won’t list them all (because that would just ruin all the fun of you actually reading the report) but here are just five of the findings for you to think about:
Almost ¾ of high growth internet startups fail due to premature scaling;
Before scaling, funded premature scaling startups are on average valued twice as much as successful startups and raise about three times as much money;
The team size of startups that scale prematurely is 3 times bigger than the successful startups at the same stage. However startups that scale properly end up having a team size that is 38% bigger at the initial scale stage than prematurely scaled startups, and almost surely continue to grow. Startups that scale properly take 76% longer to scale to their team size than startups that scale prematurely;
93% of startups that scale prematurely never break the $100k revenue per month threshold;
The following attributes have no influence on whether a company is more likely to scale prematurely: market size, product release cycles, education levels, gender, time that cofounders knew each other, entrepreneurial experience, age, number of products, type of tools to track metrics and location.
The report is interspersed with some great stories of premature scaling from serial entrepreneurs and investors and advice on how to possibly avoid it.
Anyway, there’s plenty in this extra report which is worth spending some time reading through. It will definitely make you stop and think and re-assess where you are in terms of customers, product and the rest of the core dimensions of a startup.
The below is an infographic of ‘What is Premature Scaling?’
Startup Genome Compass
Some of you might like to try the Startup Genome Compass and I would encourage you to do so. It uses company data to generate a comprehensive report on your company, which allows you to benchmark your company against over 3,200 internet startups and provides analysis that you can use to ascertain the type of startup you are and the stage you’re at.
A 1 hr presentation (thankfully split into 3 manageable chunks) from Steve Blank, author of The Four Steps to Epiphany and Eric Ries author of The Lean Startup. Recorded at the Startup2Startup conference back in May 2009 but still very relevant for startups on the importance of customer discovery and customer validation. If you haven’t read the books (shame on you), then you should definitely watch this as a taster, especially for Steve Blank’s book. Enjoy.
The National College of Ireland (NCI) is running a series of breakfast talks over the next few months featuring ‘outstanding, innovative speakers on a range of thought-provoking topics in the areas of management, marketing and human resource management’. And they got off to a flying start last Friday morning with Norah Casey, Harmonia CEO and sole female on Dragon’s Den.
Norah started with a brief background on how she got into publishing and spoke at length about the publishing business and how the industry has been struggling with online revenue. It would appear that print is still a force to be reckoned with thought, even in the digital age. For example, in Germany 50% of all advertising spend is still with magazines. Not surprisingly, when Norah was speaking about the costs involved in publishing magazines, the top two were printing and marketing. Never really going to be able to get away from those costs in this industry I’m afraid.
She spoke about how Harmonia’s prize title in the publication stable, Irish Tatler, has been using the brand to expand with such ventures as iVenus, Women of the Year Awards and the Beauty Awards, and the Spa Awards and the Designer Showcase which is now an international project. Similarly, Food & Wine magazine has spawned the Christmas Show, the Club Card and the Blue Plaque Awards. In addition to the revenue streams these bring in, the events are as much about building the brand as anything else.
The second part of the talk was Norah’s top ten pieces of advice on how to make it in business and I’ve listed them below for you to mull over. All very practical and worth taking on board.
Do your homework
Prepare to work hard
Work on the business model
Get everything free
If you fail, move fast
Decide on how to fund growth
Maintain harmony in your life
Realise that money is not a dirty word
Never stop learning (well I suppose we were in the NCI)
Looking forward to the next talk – Helen Tynan, Director of People Operations with Google – on 6th July.
And with a title like ‘Corn Flakes and Commerce’ who do you think sponsors these events? That’s right…Kellogg’s of course (oh and MetroHerald too). So it was bowls of Rice Krispies all round.