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Showing posts with label Finance. Show all posts
Showing posts with label Finance. Show all posts

How Much Money Do We Need?

Q: How much money do we really need to get this new venture concept up and running?

A: It is usually not a fixed dollar amount ... most often, it's a range of desired funding versus the time for the venture to become stable (that is, consistently break-even). Too little money and the venture will not survive, too much money and some will likely be wasted.

The optimal amount is a trade-off with the length of time it will take for the venture to become stable (that is, consistently break-even week after week). The management team needs to know what results they can deliver if the investors do pony up the requested level of funding ... and what could happen with less money raised, or more money raised. The results are usually, but not always, a change in the time to become a stable company.

There are a variety of tools, spreadsheets, and more to assist in making financial projections and setting objectives. Here's a good one from SCORE: https://www.score.org/resource/financial-projections-template

A "lean" startup is a special case ... the venture is basically trying to launch and operate below the minimum level of funding need to become stable. Think of it as an experiment. There are things to be learned in a lean venture, and often the most important lesson is that the venture just isn't going to make it without a critical mass of resources. Another lesson is that money isn't the only answer. Too much money can actually be a bad thing, but usually not as bad as too little!

In general, the more money raised for a new venture, the faster that venture can become stable up to a point. Investors will often ask the range of funding the venture is seeking. What's the minimum level of funding to get it going and sustainable, and how long will it take? What's the minimum time to become stable, and how much funding will it take? And finally,  ... what does the venture team believe is the optimal trade-off between time and money?


A little humor: I once made a presentation to a group of "friendly" investors. Call them "friendly" because they already knew us (the management team). The investors had put a good deal of money into our venture, and were (currently) satisfied with the results. Now, we were seeking to raise new money for a spin-off.

In my presentation, I said we needed to raise $x million and it would take us about y months to get the new venture stable (consistently break-even) and sustainable. One of the investors asked what could happen if they put in half the money we were seeking. I said the venture could still probably make it but it would take so many months longer to stabilize, but that level of funding was still above the failure threshold.

The same investor then asked what could happen if we were able to raise three times the money we were seeking. The "wise guy" in me came to the surface. I said that level of funding was way above the amount needed to make it to the shortest possible time to stability, and that the management team would take the excess funds and all buy Porsches because the venture didn't need the money!  I point out again that these were "friendly" investors and I knew they had a sense of humor! They didn't throw me out the door. Rather, they had a good laugh and said those were exactly the "right" answers ... they were just testing the management team to make sure we knew where the end-caps really were!

--Jim

[1.07]



Ten Entrepreneurship Myths

  1. It takes a lot of money to finance a new business. Not true. The typical start-up only requires about $25,000 to get going. The successful entrepreneurs who don’t believe the myth design their businesses to work with little cash. They borrow instead of paying for things. They rent instead of buy. And they turn fixed costs into variable costs by, say, paying people commissions instead of salaries.
  2. Venture capitalists are a good place to go for start-up money. Not unless you start a computer or biotech company. Computer hardware and software, semiconductors, communication, and biotechnology account for 81 percent of all venture capital dollars, and seventy-two percent of the companies that got VC money over the past fifteen or so years. VCs only fund about 3,000 companies per year and only about one quarter of those companies are in the seed or start-up stage. In fact, the odds that a start-up company will get VC money are about one in 4,000. That’s worse than the odds that you will die from a fall in the shower.
  3. Most business angels are rich. If rich means being an accredited investor –a person with a net worth of more than $1 million or an annual income of $200,000 per year if single and $300,000 if married – then the answer is “no.” Almost three quarters of the people who provide capital to fund the start-ups of other people who are not friends, neighbors, co-workers, or family don’t meet SEC accreditation requirements. In fact, thirty-two percent have a household income of $40,000 per year or less and seventeen percent have a negative net worth.
  4. Start-ups can’t be financed with debt. Actually, debt is more common than equity. According to the Federal Reserve’s Survey of Small Business Finances, fifty-three percent of the financing of companies that are two years old or younger comes from debt and only forty-seven percent comes from equity. So a lot of entrepreneurs out there are using debt rather than equity to fund their companies.
  5. Banks don’t lend money to start-ups. This is another myth. Again, the Federal Reserve data shows that banks account for sixteen percent of all the financing provided to companies that are two years old or younger. While sixteen percent might not seem that high, it is three percent higher than the amount of money provided by the next highest source – trade creditors – and is higher than a bunch of other sources that everyone talks about going to: friends and family, business angels, venture capitalists, strategic investors, and government agencies.
  6. Most entrepreneurs start businesses in attractive industries. Sadly, the opposite is true. Most entrepreneurs head right for the worst industries for start-ups. The correlation between the number of entrepreneurs starting businesses in an industry and the number of companies failing in the industry is 0.77. That means that most entrepreneurs are picking industries in which they are most likely to fail.
  7. The growth of a start-up depends more on an entrepreneur’s talent than on the business he chooses. Sorry to deflate some egos here, but the industry you choose to start your company has a huge effect on the odds that it will grow. Over the past twenty years or so, about 4.2 percent of all start-ups in the computer and office equipment industry made the Inc 500 list of the fastest growing private companies in the U.S. 0.005 percent of start-ups in the hotel and motel industry and 0.007 percent of start-up eating and drinking establishments made the Inc. 500. That means the odds that you will make the Inc 500 are 840 times higher if you start a computer company than if you start a hotel or motel. There is nothing anyone has discovered about the effects of entrepreneurial talent that has a similar magnitude effect on the growth of new businesses.
  8. Most entrepreneurs are successful financially. Sorry, this is another myth. Entrepreneurship creates a lot of wealth, but it is very unevenly distributed. The typical profit of an owner-managed business is $39,000 per year. Only the top ten percent of entrepreneurs earn more money than employees. And the typical entrepreneur earns less money than he otherwise would have earned working for someone else.
  9. Many start-ups achieve the sales growth projections that equity investors are looking for. Not even close. Of the 590,000 or so new businesses with at least one employee founded in this country every year, data from the U.S. Census shows that less than 200 reach the $100 million in sales in six years that venture capitalists talk about looking for. About 500 firms reach the $50 million in sales that the sophisticated angels, like the ones at Tech Coast Angels and the Band of Angels talk about. In fact, only about 9,500 companies reach $5 million in sales in that amount of time.
  10. Starting a business is easy. Actually it isn’t, and most people who begin the process of starting a company fail to get one up and running. Seven years after beginning the process of starting a business, only one-third of people have a new company with positive cash flow greater than the salary and expenses of the owner for more than three consecutive months.
[Thank you, Scott Shane]

Basic Financial Statements

There are a variety of tools used for pro forma financial objectives planning and post-facto reporting ...
  • Assumptions: a thing that is accepted as likely to happen ... the probability of a particular customer placing an order in the next 6 weeks, for example
  • Budget: an estimate of income and expenditure for a set period of time
  • Income Statement: provides performance information about a time period. It begins with sales and works down to net income and earnings per share (EPS)
  • Cash Flow Statement: the total amount of money being transferred into and out of a business; a positive cash flow is good.
  • Balance Sheet: a statement of the assets, liabilities, and capital of a business or other organization at a particular point in time.