Financial modeling for startups

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My presentation last night at the Founder Institute Brussels on "Business models, Revenues, Costs & Profits", ie. on financial modeling for startups.

(cc) BY NC SA, Rodrigo SEPÚLVEDA SCHULZ
www.rodrigosepulveda.com

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  • Financial modeling for startups

    1. 1. “Revenues, Costs and Profits” Business models, PnLs - for startups http://www.flickr.com/photos/kidswithcourage/4588175282/sizes/o/(cc) BY NC SA, Rodrigo SEPÚLVEDA SCHULZ - www.rodrigosepulveda.com - November 2011
    2. 2. “how do you plan to make money?” “how do you build a financial model ?”“what are the types of expenses, such as fixed expenses, and costs of good sold, and how to they scale ?” “How do you know if your model is right ? What do angel investors and venture capitalists expect from your financial model? How do you identify the key metrics for your success ?
    3. 3. Summary• Business models• Generic PnL• Key insights (think KPI!)
    4. 4. 1. Business models
    5. 5. Revenue = Price x Qty x3
    6. 6. R = R1 + R2 + ... = P1 x Q1 + P2 x Q2 + ...
    7. 7. ~ ~let’s simplify with : R = P x Q
    8. 8. ~ ~let’s simplify with : R = P x Q - are you a VOLUME business ?
    9. 9. ~ ~let’s simplify with : R = P x Q - are you a VOLUME business ? - are you a PRICE based business ?
    10. 10. Volume business (usually low margin)
    11. 11. Price-based business (usually high margin)
    12. 12. the famous ‘demand curve’ P 10€ 5€ 2€ Q 100 200 500
    13. 13. the famous ‘demand curve’ P 10€ R = 10€ x 100 = 1.000€ 5€ 2€ Q 100 200 500
    14. 14. the famous ‘demand curve’ P 10€ R = 10€ x 100 = 1.000€ R’ = 5€ x 200 = 1.000€ 5€ 2€ Q 100 200 500
    15. 15. the famous ‘demand curve’ P 10€ R = 10€ x 100 = 1.000€ R’ = 5€ x 200 = 1.000€ 5€ R” = 2€ x 500 = 1.000€ 2€ Q 100 200 500
    16. 16. can you be a volume + price based business?
    17. 17. can you be a volume + price based business?
    18. 18. can you be a volume + price based business?
    19. 19. shift the ‘demand curve’ - hard, requires a uniquevalue proposition sustained by heavy marketing P 10€ 5€ 2€ Q 100 200 500
    20. 20. shift the ‘demand curve’ - hard, requires a uniquevalue proposition sustained by heavy marketing P 10€ 5€ 2€ Q 100 200 500
    21. 21. shift the ‘demand curve’ - hard, requires a uniquevalue proposition sustained by heavy marketing P R = 10€ x 500 = 5.000€ 10€ (5x) 5€ 2€ Q 100 200 500
    22. 22. Read more: http://www.amazon.com/Microeconomics-7th-Robert-Pindyck/dp/0132080230/ref=sr_1_1?ie=UTF8&qid=1304956318&sr=8-1
    23. 23. Costs = Variable Costs x Qty + Fixed Costs
    24. 24. Variable Costs : anything that can be directlycorrelated with ONE unit sold of product/service• COGS : Cost of Good Sold = Cost of Revenue• usually the cost of raw materials necessary to produce a new product, or the cost of original item if re-selling• add to that anything that can be linked directly: • commission on each sale; % fee on bank; average shipping & handling cost (if not added)...• remember to think in AVERAGE terms
    25. 25. Fixed Costs (standardized) -main goal is to make them variable• Sales & marketing (S&M)• Product / R&D / Technology• HR : can be factored almost into Product, S&M, G&A• General & Administration (G&A) : rent, lawyers, travel & expenses...
    26. 26. Margin = Revenue - Costs•M=R-C• M = ( average Price x Q ) - ( fixed costs + variable cost x Q)• M = (average price - variable cost) x Q - fixed costs• M = (Unit margin) x Q - FC
    27. 27. focusing on unit margin gives you great insights• M = (Unit margin) x Q - FC means • M > 0 only if • unit margin is > 0 • (Unit margin x Q) > fixed costs
    28. 28. focusing on unit margin gives you great insights• M = (Unit margin) x Q - FC means • M > 0 only if • unit margin is > 0 • (Unit margin x Q) > fixed costs can you keep your fixed costs low ?
    29. 29. focusing on unit margin gives you great insights• M = (Unit margin) x Q - FC means • M > 0 only if • unit margin is > 0 • (Unit margin x Q) > fixed costs are you a can you keepprice based your fixed business ? costs low ?
    30. 30. focusing on unit margin gives you great insights• M = (Unit margin) x Q - FC means • M > 0 only if • unit margin is > 0 • (Unit margin x Q) > fixed costs are you a are you a can you keepprice based volume based your fixed business ? business ? costs low ?
    31. 31. 2. Generic PnL
    32. 32. startup finance is like wartime medicine :ugly but works http://www.olive-drab.com/od_medical_www.php
    33. 33. Let’s start a T-shirt business !
    34. 34. Samplecompany in this space
    35. 35. Samplecompany in this space
    36. 36. Samplecompany in this space
    37. 37. Samplecompany in this space
    38. 38. Samplecompany in this space
    39. 39. Sales: remember to focus on UNITS• let’s be competitive, and check prices from competition (sales-minus approach, vs. cost-plus approach).• Let’s build a business plan on a 14,99€ average price point for T-shirts• We can expand into segmentation of products, of prices, etc. later.
    40. 40. Sales : let’s assume I sell a few first per day, thenstart increasing sales• Assumptions : • 4 T-shirts sold per day • biz open online 24/7 = 30 days /month => 120 T-shirts/month • 5% growth / month, but decreasing slowly to adjust for linear growth • average price: 14,99€ (incl. VAT !) (19.6% in France means 12,53€ excl. VAT) - checked with market price/competition
    41. 41. let’s first model Revenue - you can play with variables later:such as discounts, promotions, and fluctuating demand per season
    42. 42. 2. COGS (direct costs)• let’s assume a white T-shirt bought online from a supplier• look for economies of scale• don’t forget S&H (incl. here)• your business plan should be VAT-free. Don’t add it, only for Cash-Flow statements• Make sure you order with enough lead-time (1 month?)
    43. 43. let’s now model direct costs - you can play with variables later : white T-shirts + stickers + shippingGross margin has to quickly become >0, >50% is best
    44. 44. 3. Indirect costs• assumptions (t0 = launch of site, add as much HR+G&A for research before) • sales & marketing : only Google Adwords SEM (assuming cost based on conversion rates) + a launch budget for display (3 months). • technology : using a hosted solution to start with :12€/month http://commander.1and1.fr/xml/order/Eshops • HR : based on number of people to prepare and ship T-shirts + founder (finance, marketing, etc.) - everything else outsourced (incl. as costs) • G&A : rent, insurance, pro services, etc. assuming a fixed cost : rent as soon as a hire (300€/person), accountants, phone bills, etc.
    45. 45. last, let’s model indirect costs - you can play with variables later :Sales & marketing, technology, HR, G&A
    46. 46. Now that your model is built : check for errors use ‘track depencies’ to check formulas I always use YELLOW for variables - check them for likeliness often use italic to indicate a result of a formula graphing an excel row (variable or result) makes it easier to check validity checking per period (quarter, year) is useful + % salesps: beware of the last column of a model (doesn’t take into account the next period)
    47. 47. good practices• Put the hypothesis on each month (eg. growth) : it’s then very easy to adjust for seasonal fluctuation, or acceleration of growth rate• Always good to put reality checks in the excel sheet. you can always hide them later. I put them in italic.• always good to number each sections item, makes it very readable• make sure you document every important cell or formula• it’s best to put assumptions in a separate sheet afterwards.
    48. 48. Read more: http://www.amazon.com/Financial-Modeling-Simon-Benninga/dp/0262026287/ref=sr_1_1?s=books&ie=UTF8&qid=1304957285&sr=1-1
    49. 49. 3. Key Insights (KPIs)
    50. 50. Break down analysis as %sales / year (~ per unit) Helps understand breakdown of costs, and efficiency potential
    51. 51. Graphs (and values) show profit >0 ~ month 35...
    52. 52. Changing variables allows to tweak & adjust business model Just changing price from 14,99€ to 18,99€ brings profitability at ~month 24 (1 year ahead). Volume to be adjusted. will the offer be competitive and attractive? Changing sales volume from 4/day to10/day brings profitability at ~month 23 (1 year ahead). Price to be adjusted + marketing expenditure. Can you validate conversion rates early enough, hence marketing expenses and traction of offer ?
    53. 53. Summary 1 : building a business model• Build a model of your business : the algorithm first, with all relevant variables• Make your spreadsheet easily readable, commented, well formatted : you’ll use it to fine-tune your business, and to share with investors later on• Don’t forget to double-check in all possible ways for errors• Then, check that your variables are in a realistic range• Finally, and only then, start testing different scenarios by just changing one or two variables.
    54. 54. Summary 2: key insights• Breakdown in 100% of revenue of ONE unit of sales• When are you profitable ? (in months?)• How many units do you need to sell to be profitable ?• Elasticity of variables (impact of each on target objective; examples = profitability, market share, revenue milestone, etc.)• In upcoming class on fundraising : helps assess how much money you need to raise
    55. 55. www.rodrigosepulveda.com

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