Avoid Financial Ruin in Startups

Contents

• Fall of Startups

• How to to avoid financial breakdown– Ignoring Emergency Funds– Insufficient Fixed Capital– Working capital is crucial– Prepare a clear Revenue Model– Pay attention to the cash flows– Generate Profits & Not Sales– Do Not Use Short-Term Funds For Long-Term Purposes– Keep In Mind Various Financial Risks

• Conclusion

Fall of Startups

• Startups have been a trending concept in the present business world

• In 2015, there was a significant increase in the number of startups in every possible field

• However in 2016 startups witnessed a reverse trend with a fall in the number of new startups

• Many startups are shutting shop too• Decrease in the inflow of funds too has resulted in some

startups merging with older & larger ventures• Most of the closures are mainly related to financial

mismanagement• Budding entrepreneurs should pay equal attention to financial

aspects of the startup as they do to technological, marketing, valuation & fundraising aspects

Lets take a look at how a startup can avoid financial breakdown

Ignoring Emergency Funds

• Many startup entrepreneurs do not keep backup plans • Funds for emergencies are also not kept aside• To enable a backup plan to function properly, it is equally

important to keep sufficient funds aside to fund those solutions

• Unprofessional handling of financial affairs involving huge sums could lead to losses

• Losses in finance of startups may prevent you from getting future monetary help from institutions

• Keeping emergency funds can help put off foreclosure from clients who defaulted on payments

• Emergency funds also be used to compensate for losses suffered from damaged or missing stock until the flow of income steadies & gives stability to the company.

Insufficient Fixed Capital

• Having insufficient operating funds has been a common lethal mistake for many failed businesses

• Businesses are forced to close down as money needed is often underestimated

• Assuming unrealistic incoming revenues from sales is a common mistake

• Ascertain the amount of money your business will require for starting as well for staying in business

• Enough funds should be kept aside to cover costs until sales can eventually pay for these costs

Crucial Working capital

• Working capital requirement is not clearly understood as opposed to fixed capital requirements

• Many ventures are starved of working capital for sustaining daily operations

• A large percentage of closures are due to a shortage of working capital

• Working capital is mainly required for:– Purchasing materials & maintaining inventories (in case of

organizations engaged in manufacturing / trading);– Meeting day-to-day operational expenses– Investing in your customers where goods & services are sold

on credit

Clear Revenue Model

• It is important to pay attention to financials & the revenue model

• Without a strong idea of how & from where the revenues are going to be created, the venture would be a non-starter

• Remember businesses cannot be run for long on investors’ money alone

• The business should essentially generate enough revenues to at least meet operational costs

Pay attention to the cash flows

• It is important to note, there is no connection between the profit that a business earns & the bank balance it possesses

• The connection between profit & bank balance is inverse, i.e. Higher the profit, lower the bank balance

• Profit may be generated mainly due to deployment of bank money

• If you started storing your bank money, it would be a matter of time before you could stop making a profit

• Fixed capital is required periodic cots like employee salaries

• Remember, successful businesses stand on 2 pillars: – The ability to generate profit & – The ability to manage cash flow effectively

Generate Profits & Not Sales

• Entrepreneurs should keep in mind that the aim of running a business is not to generate sales but to make profit

• Selling is a means towards an end & the end is to make a decent profit

• Chances of an investor further financing your business only impressed by sales volume are slim

• While developing a business plan there should be complete clarity on how the business is going to make profits

Do Not Use Short-Term Funds For Long-Term Purposes

• Startups must ensure that long-term funds are reserved for long-term purposes

• Short-term funds should be used for short-term purposes only

• Never ever use short-term funds for long-term purposes• If start-ups pay heed to the finance management aspect of

their business it will go a long way towards sustaining their venture & making it a success

Keep In Mind Various Financial Risks

• Financial risks do not vanish once your business is up & running

• A number of situations can adversely affect the cash flows of operating ventures– Customers can default on your invoices (credit risk)– Cost of your raw materials could skyrocket (commodity price risk)– A strengthening dollar can reduce the net profits from your

international customers likewise, a weakening dollar can raise costs of your offshore manufacturing operations (exchange rate risk)

– Increase in interest rates could raise the cost of your working capital (interest rate risk)

– A plunge in the value of stocks or real estate you pledged as collateral could cause your bank to cut your credit lines (asset price risk)

Conclusion

• For startups, the biggest financial risk stems from not having a Plan B • Many types of capital-intensive businesses do require significant

startup funding• Odds of finding an investor willing to take a huge risk on you are slim

being a rookie entrepreneur• It may be more practical to start a business requiring a modest amount

of initial funding• You may also want to have two separate business plans:

– one for growing the business if you happen to succeed at finding an investor

– one for bootstrapping the business if you have to go it alone• Entrepreneurs quickly learn that it is impossible to raise money when

you need it and everybody wants to give you money when you do not need it

• One way to lessen financial & other risks is to take funding when available & keep it in reserve for a rainy day