The Essential EKG For Startups
Early in my career I had a chapter consulting on turnarounds, time spent on the frontlines of the Midwestern industrial dislocation. It was pretty grim, working out of Formica clad conference rooms littered with styrofoam coffee cups and, on more than one occasion, ashtrays. My colleagues and I joked that you could immediately handicap the likelihood of the company’s survival by assessing the cleanliness of the company restroom. If it was disgusting, you knew the employees had given up and it was only a matter of time before the lights were turned off. Today, I am in a very different environment, working with cleantech startups brimming with optimism and possibility, running towards the future versus fearing it. However, if there is one truth that unites these two worlds, it is that you can never be complacent in managing cash flow.
It’s a terrific feeling to complete a funding round and to see positive cash balances in a startup’s bank account. Most founders and CEOs will do some quick math, dividing the cash balances by an estimate of their monthly cash expenses, maybe make an adjustment for several big-ticket expenses, and then take comfort in the number of months of runway suggested by the calculus. They will then move on to seemingly more important business and not worry about it. Often, this basic calculation will overstate the months of runway and cash flow issues will surface sooner than expected. Then, there will be a rush to complete a forensic exercise to figure out where the money went and how best to take action to extend runway. Usually, some regretful “coulda, woulda, shoulda” second guessing surfaces over how things were handled.
The 13-Week Cash flow: A Better Way
I believe strongly that the single most important management tool for startups is the 13-Week Cash Flow worksheet. Although it is the staple of turnarounds and workouts, it is equally relevant and powerful for companies that are scaling quickly and destined for greatness. It provides an unparalleled understanding of the financial pulse of a company, providing a detailed, forward look on the funds expected to move into and out of a venture on a weekly basis. It enables founders and CEOs to make important decisions on how to spend money, when to spend money, when to accelerate sales and collection efforts, and when to initiate subsequent funding rounds with adequate lead time. It also highlights the importance of payment terms when negotiating contracts.
Setting Up Your 13-Week Cash Flow Model
Structuring the 13-Week Cash Flow spreadsheet itself is easy. Each column represents one week in the life of a startup. So, column B in a spreadsheet might represent the week of September 3rd and then, running horizontally, you will have columns for each week until the 13th week, November 26th. Of course, there is no reason to stop there, you can run it out further but recognize that the precision begins to wane in the weeks that are further out. Under column A, in the rows, you will list the line item detail for each and every cash inflow and cash outflow. The first row will record the Beginning Cash Balance for that week, then in the rows immediately below it, you will line item each and every expected cash inflow and then, below the inflows, you will line item each and every anticipated outflow. These will net out to the ending cash balance for the week, which then becomes the beginning cash balance for the next week.
The more labor-intensive part of the exercise is populating the spreadsheet and slotting each inflow and outflow in the appropriate week. This entails understanding your contracts and their associated payment terms, professional services expenses, as well as the billing cycles for your recurring overhead expenses such as rent, internet, phone service, and insurances. Payroll and benefits will undoubtedly be one of your largest line items and I recommend truly understanding what’s represented in these costs and how they change as new employees join or if people leave.
The Important Discipline of Updating the Model
Most importantly, the tool is only useful if it is updated weekly, tying off inflows and outflows as they occur by reviewing the bank statements, and then extending it by adding a new week on a roll-forward basis. During this review process it is essential to adjust anticipated inflows and outflows as new information becomes available. For instance, if certain deals are delayed, then the anticipated cash inflows should be pushed out to reflect when the money will be received. If new deals are captured, the anticipated cash revenues should be slotted appropriately. The same exercise applies for expenses, with new expenses added or pushed out if payments can be extended.
From a management perspective, this 13-Week Cash Flow is more important than the Income Statement or Balance Sheet, both of which are backwards looking and fail to support proactive decision-making. Also, many businesses rely on software packages, such as Quickbooks, for managing their finances. These are powerful tools but I find that they don’t afford the same level of intimacy with each and every dollar that you get by manually creating and managing the worksheet itself. Getting your hands dirty with the 13-Week Cash Flow is like reading the EKG for your company. And, like an EKG, the 13-Week Cash Flow will signal when it is time to take action to better your startup's wellbeing.
