For every new business, it's all about the money, money
I want to talk about cash. When you decide to make the leap to start your own business, and when that business is a startup, you are doing it because you want to make the world better. There is something that people need, that must exist - and you are going to bring it to life!
The dream is about 5pc of what you'll spend your time on. The other 95pc is the graft to make it happen. This week in the startup diary I want to talk about working with cash, because it is how you will die.
Businesses do not fail because they are unprofitable. They do not fail because key staff have left, or because they are badly run. The only reason that a business fails is because it has run out of cash. A business is insolvent when it cannot pay its debts as they fall due. If you keep trading, you go to jail.
This is the hard reality of running a business. You have to worry about how much cash you have in the bank, every day, every week, every month.
It's much more important than your vision. Without enough cash to pay your way, there is no vision.
You have to make sure the flow of cash in to and out of your business is healthy. Just to be very clear, that means you should know if these inflows and outflows will result in a bank account balance below zero.
If you're not an accountant, how do this? Don't ignore the numbers, and don't hide from this aspect of your business.
Some successful entrepreneurs have gotten away with not getting a handle on the numbers, but scratch the surface and you'll find that they had a co-founder who could, were very lucky and generated a lot of cash quickly, or learnt on the job. You don't get to shirk this one.
There's one more reason to face up your responsibilities to manage the cash properly: you have an ethical responsibility to do so. You should know if you're going to hit the wall in six months, so that you can either wind things down, or better, take action, and save the business.
You're going to have to put some time into learning the basics of accounting. If you have yet to start your business, great, you have time to prepare. There's more than enough learning material out there. Search the web, read a book, watch videos, take a class.
This is important knowledge and will pay dividends. If you are already up and running, even better.
It might be more stressful, and mean even less sleep, but there's no better way than learning by doing. Lean on your accountant to explain everything and don't leave until you understand what you're looking at.
One practical tip: you'll be tempted to just use spreadsheets, especially if you're already familiar with using them. The problem is that you end up with a complicated custom set of workbooks that don't teach you anything about accounting. Use one of the accounting packages from day one. These days you have online options as well, and can pay monthly, so it won't cost too much. This is money well spent.
If you're a coder doing a technology startup, you must really resist the temptation to 'just' use spreadsheets. Yes, you can write macros for everything. Yes, accounting is just another set of business rules to implement. Yes, it is an excuse to code instead of doing your accounts.
But in the end you'll pay a steep price when you eventually move to a proper system. In my previous company we ran the whole thing on spreadsheets for the first three years-up to €2m in revenue and 30 staff. Fixing that mess was not pretty (I did build some pretty kickass spreadsheets though...).
There is one spreadsheet however that you must build. You'll pull the numbers out of your accounting package, but it's important that you update this sheet by hand, because it will burn the numbers into your brain.
You need a cash flow projection spreadsheet. This will show you when you will run out of money. It is critical for a startup, because you will run out of money by definition. You are trying to grow a business, so you must spend more than you make. Each time you move the business to the next level, you raise more money to take it to the level beyond that.
It is therefore critical to know how much 'runway' you have. How many months can you last before you need funding again. Managing your runway is a critical survival skill. If you are burning cash too quickly, then you need to know that so you can reduce expenses. But you need to balance that with the need to build market share, and make the business work.
Money sitting in the bank is not doing any work for your investors. They gave it to you to spend on the business. A startup must walk a permanent fine line between sufficient spending to grow, and careful spending to avoid crashing and burning.
I am not a trained accountant, and you probably aren't either. A simple cash-flow projection spreadsheet is the most effective tool I have found to walk this line. It is comprehensible and it gives you that most important piece of information - the date of your death.
The concept of runway is so important that even a brain-dead calculation of average monthly revenue vs average monthly expenses is useful. Several years ago I built a simple website, called the startupdeathclock.com (I'm so sorry for the eye-strain) to calculate this for you. If you do one thing after reading this article, you should at least use the Startup Death Clock to get a rough estimate of when you will run out of money.
In the real world, a rough estimate is not good enough, and you can do better. I've uploaded a simple cash-flow projection spreadsheet to metsitaba.com/cashflow. Please feel free to download the spreadsheet and adapt for your own business. Here's how it works.
At the top of the sheet you have three rows: Sales, Costs, and Balance. Balance is the most important one.
This is your bank balance at the end of each month. If it goes below zero, you're out of business. In a startup, you'll always go below zero at some point in the next year or two. You need to decide how far away you want that date to be, balancing your growth plans with your need to survive until the next funding round.
The Sales row is your total sales, and the Costs row is your total costs. You add these up for each month. For Sales, add up the total cash value of your sales, including VAT, and for Costs, add up the total costs each month. The difference between Sales and Costs is how much money you made, or lost, each month.
Add that to your Balance from the previous month, and that tells you how much money you're left with this month.
Now you sit down, and estimate your Sales and Costs for each month in the future, going out about a year. Watch the Balance change over time as money comes in or goes out. When it goes below zero, that's game over.
The great thing about this tool is you can try out different scenarios. How much do I need to improve sales each month to survive? Can I afford that new laptop? Will working from home and saving rent give me enough breathing room? You can answer these types of questions with reasonable accuracy.
Each month you update the sheet with real numbers from the previous month, and new estimates for the future, based on your developing understanding of the market. You'll get more accurate over time.
This little tool is a great comfort in times of business stress, and essential for a startup that is not generating substantial revenue.
I have had more experienced business people who are more comfortable with traditional accounts mock me for using this approach, even going so far as to describe it as "preposterous".
Be that as it may, I understand this approach, and that's what matters. It helps me make sense of my own business, and it will definitely help you with yours.
(Newsletter update: subscribers: 165, open rate: 33pc)
Richard Rodger is the founder of Metsitaba. He is a former co-founder of Nearform, a technology consultancy firm based in Waterford.