Why Startups Need to Rely on Solid Financial Modeling to Succeed
While a startup founder may be laser focused on finding product-market fit and growing their business, they can’t lose sight of the building blocks — like financial modeling — that can help them pave their path to success.
Being an entrepreneur requires so much passion for their products and services; it would be devastating not to see that translate to long-term success because of a limited understanding of their business’ financial component.
Consider trapeze artists: These individuals are trained on timing. Movement one second too late means that that the rope won’t be where they need it to be, and they will fall. Timing the first rope correctly sets them up for success to grab the next rope, but bad timing means a bad performance.
This also applies to founders and their financial modeling plans. Having an accurate model and plan from the start means that the founder can grab the next rope and keep swinging. (Cue the applause.) However, not having the proper planning and timing means the founder will be off track to invest, build, and scale their company.
Let’s dive into this concept.
Why Founders Should Care About Their Financials
Financial modeling needs to happen on day one. And day 75. And day 1,334.
In theory, as a company grows, so does its cash flow, resources and manpower. In the early stages of a startup, you may be burning the midnight oil with two close confidants, but things change as you build and scale your company.
You may have a good handle on your finances when you’re a team of three, but multiply that team by three and things like tracking revenue, salaries and fundraising become an order of magnitude more complicated. But if resources and hiring talent are baked into the financial model from the start, then it becomes much easier to understand and predict the needs and goals of the team of three-turned-nine.
Depending on your stage, how you invest your dollars reflects the needs of the company. In short, someone reviewing your financials should have a clear understanding of your company’s goals. Through your financial model, your entire company should be describable — including what’s top of mind for you, from potential hires to product goals.
Consider the following stages of a company’s journey:
Finding Product Market-Fit: You will be investing most of your time into building the product. Your financial model should show the resources you are investing to meet this goal, including hiring engineers and a product manager. How do you know when you’ve achieved product-market fit? Having trackable milestones within your model helps to ensure you’re on the right track.
When I mentor startups, a huge red flag is when they plan on hiring salespeople too early. Looking at their financial model, they often haven’t identified the proper time and place to start hiring and scaling a sales team.
Growth: Once you have nailed product-market fit, you now want to scale your customer acquisition through your sales and marketing. Founders who are ready to acquire customers should have the funds ready to invest in strategic hires, ad spend and more — all of which need to be reflected in a financial model.
I once saw a company invest five years, 15 engineers and a ton of money to develop the next best thing in software: predictive AI that could spot infrastructure outages and service failures before they happened. The company found some early success, but the CEO was confused about why they didn’t have any prospects in the queue. If I were to take a peek at their financial model, I would likely see that they dedicated the energy and resources into product development and failed to hire and secure the appropriate resources for customer acquisition. Investment in sales to sell is just as important as investment in products to work.
The Need for Stakeholder Alignment
Accessibility and alignment must also be two priorities for startup founders when thinking about their finances. Accessibility for all involved parties is incredibly important to ensure that both the company and its investors have easy and immediate access to the model.
A model stuck in Excel likely hasn’t been touched in months. This will not only be less than impressive to outside parties who may be interested in investing, it also means that the last few months have not been accurately tracked — and the future of the company may be at stake.
This also helps align both external and internal stakeholders. Startup founders are not the sole decision-makers within a company, and other members of the executive team need to have access to the model for alignment across the business. While the founder has oversight into all aspects of the company, a product or marketing manager can help provide the nuanced details of budgetary items. They can shed light on a glaring increase in marketing budget or show why it is necessary to increase payroll for the product team.
Successful founders are always keeping an eye on financials to ensure that they can make that next leap forward. Having an accessible financial model will only help a founder to grab the rope and be whisked onto the next stage.
Companies that don’t prioritize financials may be destined to fail. Even one oversight in Excel can be detrimental to a company, meaning the hundreds of thousands (or millions) of dollars and hours spent perfecting an idea were wasted because financials weren’t at the forefront.
Founders should develop a financial model from the start and keep close tabs on it each month to understand where they came from and where their company can go next. If they do, they might just catch the trapeze bar of success.