Building a financial model for a startup
When it comes to building a financial model for a startup, we can help.
And by ‘help’ we mean: Help you to help yourself. Because that’s what we’re all about – helping founders understand their financials so they can take control of their business.
We already have a simple financial model for a startup that you can download from our resources page. And you’re welcome to play around with that and see how you go, but you might also find this explainer about startup financial models useful to understand what’s important – what’s worth your time, and what’s not.
Why listen to us?
Because we’re not traditional accountants. We’re dedicated to startups and high-growth businesses, and we’ve built a lot of startup financial models over the years.
Our directors have experience in accounting firms, venture capital firms and at the coalface as CFO and virtual CFO to startups. They also teach entrepreneurial finance workshops and subjects at coworking spaces, General Assembly and Adelaide University.
Which means we know that building a financial model for a startup comes down to considering what you need to measure and show, and what investors will want to see from it (if you’re planning on attracting them).
We also know something that might surprise you …
All financial models are wrong but some are useful
As this cartoon from the wonderful blog over on gapingvoid puts it.
So why on earth do we bother then?
Plenty of reasons, which we’ll get to very soon, but we wanted to put that on the table upfront so you’re not tempted to fall into the trap of analysis by paralysis. In other words, trying to build the perfect financial model. There is no such thing.
Startup financial models are a best attempt to put together a consistent, financial representation of the planned performance of a business.
So, spend enough time on it to feel like you have modelled the most likely outcome for your startup. And then go ahead and deliver on it.
Because that’s the thing: Plan drives numbers
Or in other words, the process of building a financial model for your startup should begin with figuring out what your plan is (if you haven’t already). Because only then can you put a number on a spreadsheet.
Which means the process of building a financial model forces you to think about what it takes to actually build your business.
If you fall short in answering this, then the process has worked – even if you don’t end up with a model.
Or if you do manage to pull the spreadsheet together, you might then figure out that it doesn’t work financially. Again – this is a sign of the process working. It means you need to go back and adjust your plan, which will drive the next iteration of your financial model.
By the end of the process, hopefully you’ve been able to see (and show in your financial model) that your business is sustainable. And your model will also show you what financial and other resources you’ll need to succeed.
“A startup is a temporary organisation in search of a sustainable business model.”
What do investors want to see?
Whether you’re a presenting to a bank, a venture capital firm or an angel investor, you need to know your numbers. Inside out.
You need to have a sound financial model and be able to show you understand it, because this shows you’ve thought through how you’re going to deliver on your vision.
But that’s not to say that you’ll be taking spreadsheets to funding meetings.
Your financial model is part of your supporting material, which means it should be ready to go in case an investor asks for it either during, but more likely after, your pitch. We’ve seen investments fail based on this, including one case when an entrepreneur took three weeks to ‘clean up’ (rebuild!) a financial model when a venture capital investor asked for more detail.
You need to assume that your financial model will end up in the hands of an investor so that you make sure it is clear and easy to understand. Which brings us to …
The fundamentals of good spreadsheet design
There are some fundamental elements of good spreadsheet design that really help with building a financial model for a startup (or for any business).
Model reflects the plan
Since your model is a financial representation of your actual business, use elements that reflect that. For example, if you’re aiming to drive your SaaS business through Adwords or Facebook advertising, then build those costs (and revenue assumptions) into your model.
Easy to find assumptions
Every model should have at least one assumptions tab, where all the key assumptions can be found in one place. Never ever bury hard coded numbers in the depths of a formula. If an investor happens to find one of these, they’ll question what else they haven’t found. They won’t want to go looking, and you’ll have lost your credibility.
Verify your assumptions
If you’ve made assumptions about growth rates (for example), can you back them up? If you’re a brand new startup without history, find the best possibly industry metrics as a starting point for your assumptions about how your own startup will perform. If you’ve been going for a while, use your own historical information to guide future growth rate assumptions. Remember, you need to demonstrate that your assumptions are considered and believable.
Bottom up details (within reason)
In other words, start with the smallest details to build your assumptions (as much as it makes sense) and line items in your model. For example, you could simply assume a ballpark cost for advertising spend but it’s far better to itemise your actual advertising plans and the corresponding costs to properly think it through and plan.
Colour code (selectively)
A spreadsheet can be a sea of numbers. Make it easier to take in by using a bit of colour. But don’t go crazy. There are a few ways to use colour but the main thing is to keep things consistent. So if you use blue text for an enterable cell like we do, apply that rule consistently. We also use the standard black colour for derived formulas, and these two things combined mean that your assumptions are mainly in blue and other tabs are mainly in black, which helps make sense of the model more easily.
A picture tells a thousand words
So use the graph function of spreadsheets. This is especially powerful if you also layer in actual data showing the traction you’ve already had and the expected (modelled) continuation of this going forward. Some startups even give investors log in access to their key metric dashboards for the ultimate disclosure, showing they have nothing to hide.
Formatting really does matter
Yep, we’re spending a bit of time on Excel 101 but in our experience, this stuff matters especially when you’re trying to raise funds because investors are busy. Really busy. So by making your financials easier to digest, you’re making yourself that much harder to ignore!
Help building a financial model for a startup
We sincerely hope this article has helped you understand that while it’s important (vital) to have a financial model, there is no perfect one to use.
The most important thing is that you have a sound plan, which drives your numbers. And the process of creating a financial model forces you to do this.
So in the beginning, a simple financial model such as our one here, could well suffice.
And when you need to get more out of your financial model – more visibility, tighter cash controls and better forecasting – you can always book a call with us to talk about what you need.
In the meantime, if you’re serious about spreadsheet design, you might want to check out the serious folk over at the Spreadsheet Standards Review Board. You’re welcome 😉
Thanks to Serpstat on pexels.com for the image.
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