4 Tips for Planning Your Startup’s Finances Like a Pro
When you think of the excitement around starting a new business, everyone thinks of planning the financials. Am I right? Probably not. For many, it’s one of the more boring experiences. You’d probably rather spend time working on your product, or talking to potential customers. However, the truth is that planning your finances is one of the most important steps in starting a new business.
As a startup founder myself, I have first-hand experience in the importance of planning finances, so I’m going to share some of the tips I’ve picked up along the way.
Understand Your Costs
This is the most important part of any financial plan. You’re going to incur costs before you earn a dime in revenue, so having a detailed understanding of what you need to spend will help you figure out how long you can operate with little, or no income.
Start by listing all of the costs you think it will take to launch and sustain the business. Depending on your industry, location and strategy this can vary widely, so your research into this area will need to be very specific. Look for examples of similar companies by searching terms like: “typical [your business] startup costs.” Then, once you have a list of the different costs, start contacting service providers, vendors, and anyone else to start getting quotes that represent what you’ll actually pay.
Next, label each of these costs according to whether they are fixed or variable. It will come in handy as you forecast how expenditures will grow over the coming months.
Fixed costs are much more straight forward and consistent over time. They are easier to predict, but raise the bar in terms of the minimum amount of sales you need to break even. Typical fixed costs include things like rent, insurance, salaries and utilities.
Variable costs, on the other hand, will change over time as your business grows, and are often directly influenced by the level of revenue. Typical variable costs include things like materials, direct labor, sales commissions and transaction fees.
Once you identify which costs are fixed, and variable, you will then in a better position to forecast them alongside revenue over the next 12-36 months.
Your Revenue Projections are (Probably) Wrong
The most uncertain part of your financial plan should be the revenue forecast. I’ve already written a detailed post about how to build your revenue model on the Poindexter blog, so I won’t spend too much time on this topic.
Ultimately, the most important thing you need to know about forecasting revenue is that it’s probably wrong. It often takes a lot longer than we think to start generating sales, which is why it’s so important to have a detailed understanding of our costs.
Once we do get some revenue in the door, it will also probably grow much slower than we think, but it will start to offset some of the costs we incur, which brings us to our next point: cash flow.
Don’t Forget Cash Flow
When we start generating sales, we’ll need to start thinking about the balance between covering the current costs of doing business, and investing in future growth.
If we invest too aggressively, we risk running out of money, and not being able to pay the bills. If we are too cautious, we won’t grow as quickly, and risk losing ground to our competitors.
This is where cash flow can make or break the business. Often times, businesses don’t spend or receive money at the exact moment we buy something or make a sale. There may be a waiting period. The timing between making a sale and seeing the money in our bank account is what helps determines our cash flow situation. If we end up spending a lot more than we actually receive in the same period, we may find ourselves in a stressful situation.
It’s important to be mindful of the timing around cash collections and disbursements to avoid making bad financial decisions. Poor cash flow management is ultimately the reason 82% of startups and small businesses fail.
Plan Multiple Scenarios
To prepare yourself for anything the universe throws at you, create at least a couple different financial scenarios. Use the initial forecast you’ve created as the best-case scenario. Create your worst case by doubling costs and cutting your revenue in half. The new scenario will help you identify the different decisions you’ll need to make if things don’t end up going so well. Thinking about these decisions ahead of time will provide the opportunity to detail an appropriate response, which will help you maintain sanity when your assumptions hit the fan.
About the Author
Brandon Crossley is the CEO and Co-Founder of Poindexter, a simple cash flow budgeting software built for entrepreneurs.