Bad Budgets Kill Startups: 4 Early Steps to Avoid Financial Failure
by Michael Burdick, on Oct 19, 2016
This blog was contributed to Paro by Patrick Hechinger at Built In Chicago. Built In is a network that allows people to get connected to local startup communities in Austin, Chicago, Colorado, and Los Angeles.
If you clicked on this article you’re one of two people: a fresh startup founder optimistically seeking advice or a less-recent startup founder who is realizing something has gone terribly wrong.
The beauty in startups is that there is a personal attachment to them. You created a business from an idea you internally conjured. It’s romantic, yes — but it’s also dangerous. Because while you treat your business as something very personal, you shouldn’t be treating its finances that way. You may have perfected a system to handle your personal finances, but it’s time to understand the basics of handling things for your business.
Make a budget forecast
Where are you going to burn cash? What is essential to buy and what may potentially exceed your budgeting expectations? Know your standard spending and be realistic about what scenarios you might find yourself in, however unlikely.
“Building a budget forecast forces you to think through how your company’s costs will increase and change as your revenue grows,” said Kody Myers, a Business Analyst with Paro. “This is a huge win because without setting up a budget you’ll have no idea how your assumed performance compares to what’s actually going on with key metrics, such as burn rate and runway.”
Build detailed tracking metrics around your assumptions
Being disciplined with your financial processes at the growth stage allows you to fluidly monitor your most important metrics. A well-defined finance process will save a lot of time down the road when/if you need to look back to see where things went wrong.
“Your model should reflect the metrics that are meaningful to the business,” explained Myers. “For example, MRR type companies should build a model based on the number of new customers added each month and the number churned out each month. Your assumptions should be clear so a CEO can look back at actuals and identify where they assumed incorrectly and make appropriate adjustments going forward.”
Don’t be too complex!
But don’t be simple either. The perfect system walks a fine line between being too cumbersome and lacking insight. It shouldn’t physically hurt you to use it, but it also shouldn’t be something you only spend five minutes on either.
“I have run into many early stage CEOs that are so deep in the weeds with every spend that it is paralyzing,” Myers recalled. “I have seen early stage companies with more line items in their chart of accounts in their P&L than a Fortune 500 company. This only makes management decisions more exhausting, so avoid it at all costs! For example, instead of tracking Adware spend, Facebook spend, etc., track total advertising spend and budget for that. It is the job of your marketing manager to spend that budget efficiently.”
Keep an eye on your budget assumptions
Were they correct? If not then now is the time to make amendments. This may seem like common sense, but if you don't do thorough check-ins, you're bound to get blindsided. If you look at the numbers and don't know why your business is struggling it may be time to revisit your tracking metrics.
“A vast majority of the startups we work with are not great at building out a process to review and optimize their finances - it’s not their competency nor their skill set,” said Michael Burdick, CEO of Paro. “A lot of entrepreneurs, CEOs, and owners make decisions upon anecdotal feedback they're receiving from their customers but you should also be able to measure that feedback so you can prove to your investors that the decisions you’re making are right. However most early stage startups don’t have the capabilities and internal resources to do that fluidly.”
As a startup founder you have three options. If you’re feeling confident, you can take a stab at creating your own financial tracking metrics. If you’re feeling risky, you can head to Craigslist and find a “financial expert”. But if you want to play it safe, you can talk to professionals that do this for a living.