S7 E33-36 Be sure your business will make money before you launch with Jeremy Gray

Jeremy Gray – Practical Solutions to Difficult Problems
IBGR. Network. The World of Business at Your Fingertips

Be sure your business will make money before you launch. Planning ahead leads to success.

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Episode 33 Developing your financial plan – the heart of your pitch deck.
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Some experts suggest that potential investors will spend over 30% of their time evaluating the financial page of your pitch deck. As a typical pitch deck is 15 to 20 pages long, you will understand that the numbers get a disproportionate amount of attention. It’s probably only secondary in importance to your executive summary. If your executive summary has not caught their attention then they will not read further and never get to the financial page. Of course, your executive summary should include some high-level financials. 

If you have been following me during this season you are well on your way developing a financial plan that can be summarized in your pitch deck. A financial plan that will stand the scrutiny of seasoned investors.

1. In earlier episodes I have discussed:
   1. Demand Validation – you have confirmed that there is a demand for your product, people will buy what you are selling
   2. Assessing your competitions strengths and weaknesses and how you will outcompete them. As part of this assessment you understand what resources are needed to win the battle in the marketplace.
   3. You have estimated what it is going to cost you to produce your offering,  and looked at ways to keep those costs to a minimum.
   4. Your pricing strategy has been reviewed and you have a good understanding on what you are going to charge for your goods or services. You have even considered an early customer loyalty program.
   5. A hiring plan has been developed, you understand who you will need to hire, when you need to hire them and what they are going to cost.
   6. The operating costs needed to start up and maintain your business have been evaluated. You have considered trading off lower initial profits against maintaining your cash flow. You know your burn rate and have estimated the cash you need to get started.
   7. You know the market size and have confirmed that a reasonable market share will deliver the sales needed to sustain your business.
2. Its been hard work but now you can start to bring it all together and be sure that your business makes financial success.
3. Avoid massaging the numbers to get to the answer you want. If the numbers are not adding up, go back to your assumptions to double check them. Maybe you missed something, is there a product feature you can eliminate that will save costs, do you really need a full time CMO,  CFO, CHRO in the first years of operation – can you make do with part time? Can employees work from home rather than renting an office.
4. The fundamentals of a financial plan.
   1. Often referred a three statement financial plan
      1. Profit and Loss
      2. Balance Sheet 
      3. Cash flow
   2. All three are inter-related and all three show a different picture of your business. All three are needed for a complete picture of the financial status of your business.
   3. Established companies tend to focus on the P&L and the most easily managed aspects of the balance sheet which are the elements of working capital. Business management usually pay scant regard to the balance sheet
   4. As I start up I recommend you make your cash flow statement your highest priority with the P&L a close second.  The balance sheet should be reviewed occasionally but as time will be at a premium this need not be your focus. Your cash flow will cover the important element of the balance sheet – your working capital.
      1. This can be an issue if you are outsourcing your accounting. Most services focus on P&L and Balance Sheet. Not your number 1 priority
      2. Speed is of the essence – financial statements produced 3 to 6 weeks after a month has closed are not very helpful.
   5. I have digressed slightly to emphasize the importance of cash flow but today we are talking about preparing a financial plan not your reporting mechanisms.
5. I am not going to go into the mechanics of producing a three statement cash flow. 
   1. There are many free templates available to help you prepare your P&L, Balance Sheet and Cash flow.
   2. You can buy mores sophisticated software with customer support that might be a better option if you are not good with numbers, or if your business has some unusual aspects.
   3. They all ask you questions about your business and produce coherent statements
   4. If you are an excel wizard and have a solid understanding of finance you could build the model yourself. But trading the time involved versus the cost of even the most sophisticated modeling software, its not worth it.

Tags: How to start a business, achieve start up success, Ansoff matrix, business growth, market penetration, the successful entrepreneur, business common mistakes small business start-up; avoid these common mistakes of business, mistakes in business, IBGR.network, Jeremy Gray, Practical Solutions to Difficult Problems

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Episode 34 Does your financial plan make sense?  How to use KPIs to be sure

Key performance indicators of KPIs are an excellent tool for assessing your financial plan and for tracking your business’s performance. Some KPIs are common to most businesses, some will be more focused on your industry and some maybe specific to your business.

These are the crucial metrics for your business. Potential investors will be interested to understand how you will measure progress. KPIs also help your employees know what is critical for your business.
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1. KPIs fall into two types – Leading KPIs that will tell what is going to happen and lagging KPIs that tell you what has happened. Both have there uses.
   1. Sales per salesperson is a lagging KPI. It can only be calculated after a sale has taken place.
   2. Initial customer contacts per salesperson is a leading KPI. More contacts now will, hopefully, lead to more sales in the future
2. Investors will expect to see at least the most common KPIs. 
   1. Revenue growth rate
   2. Gross Margin
   3. Profit – Earnings, EBIT, EBITDA
   4. Cash flow – burn rate per month, Runway remaining etc.
3. Consider what is important for your business. Failure to track and understand the performance indicators can lead to business closure
   1. LayerVault provided a version control service to developers. It was very popular with its users but failed to gain enough traction to attract future investors and ran out of funds. CEO Kelly Sutton said “I think one of our biggest mistakes as not checking our KPIs regularly enough. They would have greatly helped us identify problem points in our business.
4. Although KPIs will be different for each business some can really help you understand your business value proposition.
   1. Customer conversion rate. The number of customers who sign up or buy your product divided by the number of customers who have expressed an interest. If this number is low, potential customers are not seeing the value in your product or service versus the cost. Re-evaluate your pricing model or your offering design. 
   2. Customer Retention Rate or Churn Rate. These are opposite sides of the same coin. Customer retention rate is the percentage of customers who remain with you. It is often looked at over a year or more. How many customers who bought from you last year are still buying from you this year? Churn rate is the number of customers lost in a given period. Which is appropriate for you depends on your industry. If you are a B2B business retention rate may be more the most useful. Churn rate is maybe more relevant to B2C or SaaS companies.
      1. High retention or low churn rate indicates that your current customers are happy and believe you are solving their problems and are delivering value.
      2. Low retention or high churn could mean that your pricing is too high for the value offered, or there is something missing from your product offering that your customers need.
   3. Length of your sales cycle. This is the time taken from initial contact with a potential customer to making that first sale. This KPI can help in several ways.
      1. If you measure it by sales person you can identify who closes the deal most rapidly. This is a learning opportunity to teach others on what to do and what not to do.
      2. If you track the sales cycle through its stages you can learn where the roadblocks are in your selling process
      3. If the sales cycle is increasing overtime it could mean you have exhausted the customers who are early adopters and your ideal fit and are now having to attract less enthusiastic customers.
         1. Your Customer Acquisition Cost (CAC) may be increasing.
5. There are many other KPIs that could be relevant to your start up. If number of users is important to your business, you will need to consider Daily Active Users or Monthly Active Users as a metric.
6. Identify the KPIs that are most important to you. Use them to confirm your financial plan makes sense.
   1. If you think your customer conversion rate will be 1 in 10 and your sales cycle will be 3 weeks and you plan on 2 salespeople, then it is unlikely you will have 100 customers at the end of month two after launch.
      1. Can be used in reverse to calculate the number of salespeople you need to achieve X number of customers by Y month.
   2. Use KPIs as benchmarks against your competitors. Sales per employee for example. If your financial plan shows $500,000 per customer and the industry average is $400,000 it could be that you are being over optimistic.
7. Use leading indicators and track them carefully. This could be the earliest indication that things are not going to plan.

Tags: How to start a business, achieve start up success, Ansoff matrix, business growth, market penetration, the successful entrepreneur, business common mistakes small business start-up; avoid these common mistakes of business, mistakes in business, IBGR.network, Jeremy Gray, Practical Solutions to Difficult Problems

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Episode 35 Entrepreneurs often overlook key parts of their financial plan. What’s missing from your plan?

Some elements of a financial plan should be obvious to every entrepreneur. Sales, Costs of production, Gross Margin, Overheads etc. But some cash intensive demands are often overlooked, especially by first time entrepreneurs who do not have a finance background. The objectives of your financial plan are many but one that is important to you is you are seeking funding is get an estimate of what your business will be worth. What is its valuation?
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1. Working Capital – the money you need to run your business. A necessary evil.
   1. For this discussion I will define working capital as Inventory and Accounts Receivable which can thought of a the negative aspect of Working Capital. Accounts Payable – the positive side of working capital, as this is in effect money being lent to you by your suppliers. And finally, the cash balances your must maintain to ensure you can pay your bills as they come due. One of the most important of which is your employee’s salaries.
   2. Investors will look at your ability to manage working capital as a measure of how efficiently your business is being run. Good control of working capital shows that you are focused on what is important – that is cash.
   3. Common measures of working capital:
      1. For Accounts Receivable – Days Sales Outstanding DSO. If your customers are slow to pay your DSO will increase.
      2. For Accounts Payable – Days Payable Outstanding DPO. This reflects how quickly you pay your suppliers. The longer you delay payment the higher your DPO.
         1. Just paying late is not the most effective way to manage DPO.
      3. Inventory – Days on Hand (DOH) – the more money have tied up in inventory the higher your DOH.
      4. AR and Inventory are negative to cash, so you want DSO and DOH to be as low as possible. AP is positive to cash. so you want DPO to be as high as possible.
2. Startup expenses – even before you open your doors you will be incurring expenses:
   1. Incorporation costs, business licenses, logo design, website creation, company secretarial fees
   2. Essential equipment – computers, phones, printers, desks, chairs, staff amenities
3. Taxes
   1. Taxes on profits are obvious – but check out new business incentives.
   2. In early years tax losses may be incurred, this can usually be offset against future income.
   3. Sales taxes, VAT and GST. These become payable based on invoice date, not when your customer pays you. Understand the regulations in your country and estimate how much of this tax burden your may have to finance out of your funds.
4. Depreciation
   1. Although it is a non-cash item it is on your P&L as a deduction from profits
   2. The rate of depreciation varies on the type of asset. Computers are often depreciated over 3 years, buildings over 40 years. Land is typically not depreciated.
5. Valuation
   1. Many entrepreneurs would like to dispense with a financial forecast if it wasn’t that banks and other investors require a plan.
   2. The good news is that having prepared a financial plan you have a basis for valuing your business
   3. It’s not uncommon for businesses to be seeking funding before they launch. Your financial forecast is all you have as a basis of negotiation with your investors. How much of your company do you need to give up for X dollars of funding?
   4. Document and be able to justify your assumptions. The more reliable third party facts, figures, reports the better.
   5. Discounted Cash Flow (DCF) is a common method of determining a businesses value. After all the value of a company is its future cash flow.
   6. At this early stage you have no track record of your ability to forecast your business’s results so expect investors to challenge or discount your assumptions.
   7. Discounted cash flow requires a discount rate. This is often tied to the cost of borrowing. Do not be surprised if investors use a discount rate much higher than bank lending rates. They will have their own cost of capital. The higher the discount rate the lower the valuation. 

Tags: How to start a business, achieve start up success, Ansoff matrix, business growth, market penetration, the successful entrepreneur, business common mistakes small business start-up; avoid these common mistakes of business, mistakes in business, IBGR.network, Jeremy Gray, Practical Solutions to Difficult Problems

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Episode 36 Scenarios, Sanity Checks and Sources of Funds. How to get the most out of your financial plan.

The best-laid plans of mice and men often go awry
Robert Burns

Your plan is finalized, as you have used a financial planning software the numbers should tick and tie. You are ready to present to potential investors who will be blown away by your financial skills. Maybe not so fast. The plan can do more for you, if you take a little extra time.
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1. Take the time to create different versions of your plan based on different assumptions. You are entrepreneur, you are naturally optimistic, you are enthusiastic about your product – how can anyone fail to see the value in what you are offering. 
2. Unfortunately, expectations and reality do not always match up. The best laid plans……… Success does not always come as early planned and sales do match up with your projections. Costs are higher than anticipated. Good staff is hard to find. 
3. Your base plan that you have prepared is your best estimate, your base case. But it is worth developing some less success scenarios. Model if sales are 5% lower, 10% lower. Your first sale is three months later than planned. Costs are higher. 
4. Maybe model cases to a level where you agree (with yourself) that the business will not be viable. This will give you an idea of how much cushion you have between your base case and going out of business.
5. Look at your funding requirements. How much extra time could, say, an additional $100,000 in investment buy you?
6. Do not let this exercise be just look at the downside. Model some upside cases. You maybe surprised by how much better your business looks if sales are just 10% higher than forecast. Once your overheads are covered then the margin on those additional sales drops straight to the bottom line. It can be great fun to model upsides and may motivate you to go that extra mile to get those additional sales. Dream about that house, boat, car whatever you want, that those extra sales can deliver. Hope for the best and plan for the worst is a common expression. But as an entrepreneur you work towards the best and prepare for the worst.
7. Take some time to perform a sanity check on your financial model. Does it really make sense? There can be nothing worse than have a potential investor point our a flaw or inconsistency in your plan. Take a look for the following:
   1. Does your financial model tie to your business plan? Are they consistent?
   2. Can you support your revenue projections if challenged? And you will be challenged.
   3. Are all funding needs adequately explained? If you are planning to buy equipment have some quotes to back up numbers, similar of leasing offices etc.
   4. Is the basis for all your assumptions clearly articulated and supported? 
   5. Do you staffing levels make sense? $10 million in revenue with 3 sales personnel may not seem credible. 
   6. Do you have the ability to hire, train and manage the staff needed? If growing rapidly this can be challenging
   7. Missing costs. Spotting a negative or something missing can be difficult. Scrutinize your costs assumptions to ensure everything has been included.
   8. Do not forget working capital.
8. Your plan gives you the credibility to seek funding should you finance with debt or by investors.
   1. Debt has several advantages
      1. You retain 100% control of your company
      2. Interest is tax deductible
      3. Encourages discipline on the management team as those repayments have to be made on time.
   2. But bank financing can be difficult to obtain without a track record and collateral. Some suppliers for high cost items may provide funding towards the purchase.
   3. Equity financing is more common but
      1. You will need to give away part of your company
      2. Investors may want a say in the way the business is run. And it may not match your plans.
      3. You could ousted from your own company. It has happened.
   4. On the positive side there are no loan repayments to be made, and if your successful additional funding could be available faster than going back to your bank.

Tags: How to start a business, inflation, supply chain, procurement, cost control, contract negotiations, achieve start up success The successful entrepreneur; business common mistakes; small business startup; avoid these common mistakes of business; mistakes in business; IBGR.network; Jeremy Gray; Practical Solutions to Difficult Problems

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