Maxwell Consulting

Financing for Startups

Financial Models

In order for an early stage company to raise money, it must provide investors with a set of financial projections.  Typically, companies will pull together a top-down P&L projection going out three to five years.  I have learned from hard experience that this is wholly inadequate.  You will need a complete Operating Plan, for reasons I will describe below.

I have developed a template for Operating Plans that embodies over thirty years of experience building such plans for clients in manufacturing, retail, software, internet and services.  This template provides a platform for the rapid development of custom Operating Plans, which clients can then use to optimize their funding strategies.

To view elements of an Operating Plan suitable for presentation to investors, please select from the options below:

There are many reasons why a simple top-down P&L will not suffice for raising capital. Firstly, before contacting investors, the company should determine how much capital it needs to raise. A P&L projection can tell you the operating losses that you will need to fund, but it misses at least three other major items that consume cash. It does not properly reflect your purchases of equipment, software and other capital assets (a minor ongoing depreciation item in your P&L, but a major up front cash outflow). It ignores your accounts receivables (booked income as far as your P&L is concerned, but in reality cash that is NOT yet in your bank account). And it misses any inventory you may need to carry (not yet expensed in your P&L projection, but again an up front cash outflow).  In many cases, the total amount of cash required to reach cash flow break-even can be two to three times the operating losses indicated by the P&L projections.

Moreover, a P&L alone cannot answer a wide range of questions concerning the company's business model and possible performance.  For instance, does the company consume more cash before reaching cash flow break-even by growing quickly or slowly?  How much cash needs to be raised to reach the first milestone at which the company's riskiness (and therefore its cost of capital) drops sharply?  How many assets can be funded with inexpensive asset-based debt finance rather than expensive VC equity?  The answers to these and many other questions determine the optimum financing strategy to avoid unnecessary dilution of the founding team's ownership percentage in the company.   They can only be answered by a thorough analysis of the projected dynamics of your P&L, Balance Sheet and Statement of Cash Flow.

For all of these reasons, it is critical that a startup develop a complete economic model of its business, a living, breathing set of interactive relationships modeled in a spreadsheet that behaves like the actual business and can be used for scenario generation, analysis and optimization.  This model is not just a pretty picture for investors; it is a hardcore Operating Plan with all of the gritty details of who, what and when.  Properly done, the management team can analyze and discard many alternative approaches to launching or growing the business, including testing different pricing schemes, distribution strategies, sales force models, support options, payment cycles, hiring plans and marketing budgets, to name just a few key strategy elements. 

The output of such an Operating Plan is a set of P&L, Balance Sheet, and Cash Flow projections.  But standing behind these is a complete model of the business that provides the following benefits:

  • The entire management team knows exactly what each individual needs to do in each month of the plan.
  • The management team has a yardstick against which to measure execution.
  • The management team knows exactly how much cash it needs to raise to reach cash flow break-even, and how sensitive that number is to changes in key operating assumptions.
  • The Company has hard evidence to provide investors that it has thought through every aspect of execution.
  • The Company can strongly support the credibility of its projections by showing investors that its forecast is built from the bottom up, sale by sale, hire by hire, with all key assumptions clearly articulated.
  • The Company has a cash forecasting tool that can be adjusted for actual results to provide invaluable early warning of the need to start looking for another round of equity, with time to raise it before running out of cash.

A savvy management team will have all of this in place before getting in front of investors.