Monday, June 27th 2022 (about 2 months ago)
As a founder, you’re probably familiar with this common myth: With hard work and dedication, any entrepreneur can turn their business into a success story.
But you’re probably also familiar with the cold reality that the vast majority of startups will fail.
Of course, many factors can contribute to a startup’s failure, but the most common cause by far is simply running out of money.
It might be more accurate to say, “With hard work, dedication, and good cash management skills, any entrepreneur can turn their business into a success story.”
Today’s founders need excellent cash management skills. They need an annual budget and accurate financial statements, and they need a way to project all those figures into the future.
That’s what this post is all about. We’ll talk about the importance of your budget, how you can use it to stay accountable as a founder, and how you can predict what your budget will look like in the future.
An annual budget lines out the expected revenues and expenses for the coming year. It should show how you plan to cover fixed and variable costs, such as rent, salaries, marketing, and product development. It should also project how much revenue the company expects to generate from sales.
Your startup budget should also include a cash flow statement. This document shows how much money is coming in and going out of the business over the year. A cash flow statement can help founders track their progress and make necessary adjustments to their spending.
When you don’t have a well-developed financial model, it’s hard to track progress and make the necessary adjustments to keep your business on the right track.
An annual budget covers the basics for you. It ensures that your startup has enough funds to cover its expenses and meet its financial goals for the year.
Here’s a quick overview of the various benefits a budget provides for your startup:
Sets Clear, Defined Goals for the Company
A startup budget sets clear, defined goals for your company and helps you track your progress over time. Without a budget, it’s difficult to make informed decisions about how to best allocate your available resources to grow the business.
A budget also helps you to think about your long-term goals and plan accordingly. Without a budget, many startups simply react to their immediate needs and current crises, making it difficult to establish long-term stability.
Provides a Forcing Function to See What It Will Take to Reach the Next Stage of Growth
Too often, startups focus on too many things at once and burn through their available capital without ever hitting escape velocity. A budget forces you to make the tough choices and allocate available funds to the most critical areas of your operation.
The Board Will Expect It. It’s Part of Growing Up as a Company.
A startup budget is a fundamental part of your board’s expectations – they will want to see that you have a clear plan for generating revenue and managing expenses.
They want to know that you have a solid understanding of your financial situation and a realistic plan for how you will allocate investment capital in a way that facilitates growth and profitability. A budget is a simple way to demonstrate that you have done these things.
Allocates Resources by Department for Spending
Creating a budget allows you to allocate funds to different departments, communicate the resources each department has available, and then track that spending.
This is especially important for startups, as they almost always have limited resources and need to optimize spending to make every dollar count.
If you’re not using a detailed financial model, it can be easy to overspend in one area and underspend in another without becoming aware of the problem until it’s too late. By creating and sticking to a budget, you can ensure that your startup is on a consistent track and will spend its resources in a way that’s consistent with your long-term vision.
Helps to Ensure Healthy Runway Is Maintained by Setting Spending Limits
Startup costs can add up rather quickly. You need to spend money on so many things just to get your business off the ground. Office space, salaries, workstations, software subscriptions, professional fees, marketing costs, and product development tools – if you’re not careful, you can burn through your startup capital quickly!
This is why it’s so important to have a budget for your early-stage startup. A budget helps you keep track of your spending and ensure that you’re maintaining a healthy burn rate that preserves your runway and keeps the business afloat.
What makes a good budget? A good startup budget should be clear, concise, and include the following features:
Clear Revenue Goals That Are Agreed Upon by All Key Stakeholders
Your budget is only as good as its ability to predict revenue. Without a clear and concise revenue model, a startup budget is little more than a best guess.
Even the most well-intentioned budget can quickly become irrelevant if the company is not meeting its revenue goals.
For a startup budget to be effective, it must have the buy-in of all key stakeholders. This means that everyone involved in the budgeting process must understand the revenue goals and agree that they align with the company’s reality.
If there is disagreement among stakeholders about the revenue goals, the budget will likely be ignored or misunderstood, leading to wasted time and resources.
Annual Vision for Investors
A good startup budget should lay out a company’s annual vision and provide milestones for investors to gauge progress. The budget should be clear, concise, and easy to understand. It should also be realistic and achievable.
One way to ensure that a budget is realistic and achievable is to create it using historical data and current trends. This will help to ensure that the numbers are accurate and consistent.
If your startup has a living financial model that you update every month, then it should be easy to look at historical data and trends to extrapolate your likely outcomes for the year ahead.
When you write your goals for the year, use the SMART guideline to ensure that each of your goals is specific, measurable, attainable, relevant, and time-bound.
By creating a solid annual budget, early-stage startups can provide investors with an annual vision for the year and keep them updated as they make progress.
Your startup budget should communicate the company’s plans for fundraising, detailing both how much money the company intends to raise and the timeline for when you plan to raise it, and how you intend to use the funds.
If your team will expand over the year, your budget should include salary, benefits, and other associated costs for each planned hire. Including this information helps ensure that the company will be able to attract, hire, and retain the right talent without overspending.
A good startup budget should include line-item expenses that detail how the company plans to spend its money.
In a typical startup environment, some everyday line items are office space, equipment, inventory, marketing, professional fees, etc. Including all known expenses in the budget will give founders and stakeholders an excellent foundation to work from.
Your budget should include a clear statement of the company’s cash objectives. The cash objective is the amount of money your company needs to raise to meet its expenses and reach its goals.
Base your cash objective on a realistic assessment of the company’s current runway, expected revenue, and anticipated expenses.
Accountability is critical for founders because it provides a framework for measuring progress and success. Without accountability metrics, it can be challenging to identify areas that need improvement and make the necessary changes.
Additionally, accountability helps to build trust between team members and stakeholders. When people feel that they are being held accountable for their actions, they are more likely to perform at a higher level and take ownership of their work.
Accountability can also create a sense of responsibility and commitment to the startup’s success. Startups that instill a culture of accountability are more likely to achieve long-term success.
Here are several more ways a budget can help keep your startup accountable:
Monthly Forecast vs Actual Analysis
A startup budget can be a helpful tool for keeping your business on track. When you plan your expected income and expenses every month, you can then track your progress and adjust your spending accordingly.
This level of accountability helps keep your business on track and prevents overspending.
When you maintain a living financial model, you do this exercise every month – identifying areas where you may need to cut costs, invest more money, or change your strategy.
Provides Opportunities for Mutually Agreed Upon Resets
Having a budget in place can help to keep you from making impulsive decisions about your business without sufficient data. If you’re veering off course, a budget can provide a mutual point of agreement between you and your team about how to reset and get back on track.
Provides an Opportunity to Create Agreed Upon Contingency Plans for Cash Shortfalls
Creating a sound budget provides an opportunity to create contingency plans for cash shortages. By planning for unexpected expenses, you can reduce your business’s risk of running out of funds unexpectedly.
In addition, just demonstrating that you have contingency plans in place can help you secure funding from investors or lenders if needed.
Allows Investors and Stakeholders to Keep You Consistent and On Plan
A budget is most effective when you share it with your key stakeholders – especially your investors and your team. When you share your budget (and your financial model) with these people, you’ll always be held accountable to your plan.
In today’s competitive startup landscape, this level of transparency is essential to attract and retain the best investors and the best talent. And, while it may seem daunting at first, sharing your budget is a critical step toward ensuring the long-term success of your business.
Building detailed budgets doesn’t come easily to every startup founder. However, sound financial analysis and preparation are critical for any startup. They provide the foundation founders need to make informed decisions, track progress, and stay accountable.
A well-constructed financial model gives you all of the functionality of an annual budget, with the additional benefit of projecting your budget and cash flow out up to 60 months into the future.
Forecastr helps early-stage founders build great financial models.
We make it easy to budget your revenue and expenses so that you can focus more on building and selling. Our seasoned analysts work with you, side-by-side, to create a financial model that is customized to fit your unique business. Reach out today to learn more.