How to Create a Financial Forecast When You’re a Pre-Revenue Startup
Every entrepreneur I consult has experienced some issue generating profit revenue projections. It’s a perennial issue in startup land — and I imagine it will stay that way for a while.
The issue stems from where startup founders source capital. On one side of the river, you’ve got the progressive pack — those we would categorise as angel investors, large venture capitals (VCs) and micro-VCs. On the other side, you’ve got the conservative pack — private equity, debt financing from banks and other lesser known sources.
The key difference is risk mitigation; and the way to achieve this is with documentation. The conservatives want piles of documentation to illustrate your claim that you’ll be worth real cash. The progressives understand that most of what goes into these documents is assumption anyway, so don’t place AS MUCH importance on them. That’s not to say the progressives don’t want documentation — they just take them with a grain of salt.
Wherever you source capital, you’ll need to run some basic projections. There are two ways to achieve this. If you’ve been exposed to business projections before and are building a software as a service (SaaS) business, I highly suggest utilising an awesome template by Christoph Janz (see image below).
Jump over to the assumptions tab and enter in your key assumptions. It’s really important that you only use this if you understand everything inside it; you’ll lose all credibility if you can’t explain all the maths and predictions behind it.
If you’re new to the startup world and financial forecasting, follow the steps below. I’ve put together a template outlining the cash forecast for a startup offering a free trial for its product, then a monthly subscription upgrade.
In your excel document, copy the style of template below.
Let’s talk about revenue first; this is just projected income cash into the business. In the example below, I’ve done a projection for a Xero plugin, but this logic can be applied to pretty much any product. I’ve added note number to it so when I talk about point 1 you can see the attached field.
- Whats the size of your market? Xero has 500,000 companies using it around the world so I’m adding that in.
- Of Xero’s total global users I’m assuming I plan on capturing 1.5% — remember to be conservative and realistic here. No one captures 10s of percents in the early days until you’re Snapchat or Facebook.
- Calculate what that % is; for us that’s a potential market of 7.5 customers.
- Now I’m assuming that if we can capture that 7% into a free trial of our Xero plugin, then 7% of them will upgrade to our premium plan.
- I’ve calculated that this would result in 525 companies on our premium plan.
- I’m assuming that each company has 10 employees who will use the service. I’m thinking this is something like Salesforce where there are 10 account executives at each company.
- I’ve now calculated that grabbing 10 users from 525 companies would yield 5,250 actual paying users.
- I’m assuming each user will pay $8 per user per month which results in an assumed $7.56 payment after we process it through a gateway like Stripe.
- I’ve calculated that 5,250 users paying $7.56 each month would yield a monthly income of $39,690. For the sake of simplicity, I haven’t included any taxes like GST.
Now let’s look at the costs — the actual numbers you see are just ones I came up with off the top of my head. On points 11 to 19, you’ll see some normal startup costs. Just add all the ones you know or can project. There may be costs special to your startup.
Below the costs you’ll see some classic business: Revenue — Costs = Profit. This is a simplification of what is a lot more complex in practice but holds true for us.
The word assumption plays an important role in all the calculations above. I’ve assumed a total of four key facts. These could turn out to be better, worser or spot on. But you don’t know this until you launch in the market and you see your analytics. There is a term called GIGO, which stands for ‘garbage in garbage out’. Basically the math is so assumption-heavy, you can’t really trust its output.
The key to all this is to know and be realistic about the method of monetisation and the costs. If you can roughly outline your method, I feel you will have a great chance of convincing someone of your profitability.