How to Build a Solid Financial Model
Raising a friends and family round isn’t realistic for every founder, yet it’s become the expected path to entrepreneurship in our industry. Our new event series called “Friends & Family” focuses on alternative capital routes for founders at the earliest stages. We explore different paths to funding, the pros and cons of each, and how to best pursue them.
For our latest virtual event, we welcomed Paul Bianco, CEO of Graphite Financial. Paul’s background in venture capital helped him to develop a deep understanding of the needs, nuances and economics of early stage companies. He recognized that founders could often use more than just an influx of cash; many could benefit from the help of end-to-end financial services. He assembled a team of seasoned CFOs, entrepreneurs and accountants to launch Graphite Financial. The team helps founders at all stages with strategic financial modeling, it acts as a fractional accounting team, and offers tax & compliance support. Paul sat down with us to share some wisdom with our Grasshopper community. You can watch the replay here, get access to content shared here, and read on for highlights from our conversation.
Build for you
As an entrepreneur, your financial model should be a tool to help grow your business, Paul emphasizes right away. A financial model is sometimes thought of as a boring assignment, dusted off only occasionally for fundraising purposes but that’s missing the point. Paul says, “One of the reasons I like financial modeling is that it’s one of the only times in a company’s lifecycle when you really have the chance to sit down, put everything out there on a piece of paper and really think about the business as a whole”. When you think of it that way, it’s actually pretty exciting! You’re mapping your company’s future by projecting its cash flow. Just be sure the model you build makes sense for you rather than it just looking good for investors. Paul makes the point that while VCs will have opinions, this is meant to be an operating model, not a valuation model. Build a model you can reference any time to get a clear picture of your business.
Be realistic
Having confidence in your financial model doesn’t mean that you need to be overly optimistic. It’s important that your numbers match across the board, Paul stresses. If the numbers in your pitch deck, don’t match the numbers in your financial model, or don’t match the numbers in your books, that’s a problem. “Even at early stages, sloppy finances are often a proxy for sloppy execution,” Paul tells us. He cautions entrepreneurs to be careful with their assumptions. In particular, founders often think that more growth will happen at the tail end of the year, but that isn’t always the case. He reminds us that getting your first customer is the hardest, and from there, you should build in a ground-up, logical way. Founders who are modeling at the very early stages of their businesses often have to guess, which can be intimidating. Paul suggests that founders look to other companies in the space. His advice for those modeling when they are pre-product or pre-revenue is to be realistic about timeframes (for example, it takes a long time to bring a product to market). He also suggests that founders think through where all of the money is going- from hiring, to tech resources, to marketing budget, to when the business would run out of money. Paul says, “You’re going to have a lot of assumptions in this model. Only put assumptions in that you can actually measure in real life. When you learn more and as the business goes on, you’ll be able to adjust those numbers”.
Focus on the unit economics
Financial model templates are a great place to start if you don’t have a background in finance. Paul tells us it’s important to remember that costs like payroll, marketing, rent, and travel are fairly universal, but your revenue and cost of goods sold (COGS) need to be carefully tailored to your business. While founders often focus on “runway”, Paul makes the point that despite good runway projections, poor unit economics can indicate that product market fit has not been achieved, which is a red flag for investors. With unit economics in order, it’s easier to see what the company will look like at the end of that runway, which is ultimately what investors are interested in, Paul explains. Having a clean chart of accounts is also key to an entrepreneur making data driven decisions as their business evolves. Paul shared an example of a founder he was working with who saw that revenue and expenses were both rising, which seemed to be a normal trend. But when the founder dug into their unit economics, the compensation for the sales team was much more than the business being brought in. Paul speaks about the importance of cumulative gross profits, “Sometimes high level cash flow does not show you what’s happening under the hood”. How you come to your financial model, whether building it yourself or working with a company like Graphite Financial, is up to you, but make sure you do your research. The ability to speak to your finances in detail is crucial to a founder’s success.
Finances are a major stressor for early stage founders, so we’re very grateful for all the advice Paul was able to offer to our community today. If you’re interested in having an accounting assessment performed for your business, please visit www.graphitefinancial.com or send an email to hello@graphitefinancial.com. We hope the guidance offered here today will help you take the steps you need to build a financial model that you believe in and will have investors lining up to fund you!
