Financial modeling for startups

“Revenues, Costs and Proﬁts”
Business models, PnLs - for startups

http://www.ﬂickr.com/photos/kidswithcourage/4588175282/sizes/o/

(cc) BY NC SA, Rodrigo SEPÚLVEDA SCHULZ - www.rodrigosepulveda.com - November 2011

“how do you plan to make money?”

“how do you build a financial model ?”

“what are the types of expenses, such as fixed expenses, and costs of
good sold, and how to they scale ?”

“How do you know if your model is right ?

What do angel investors and venture capitalists
expect from your financial model?
How do you identify the key metrics
for your success ?

Summary

• Business models

• Generic PnL

• Key insights (think KPI!)

Revenue = Price x Qty

x3

R = R1 + R2 + ... = P1 x Q1 + P2 x Q2 + ...

~ ~
let’s simplify with : R = P x Q

~ ~

- are you a VOLUME business ?

~ ~

- are you a VOLUME business ?

- are you a PRICE based business ?

Volume business (usually low margin)

Price-based business (usually high margin)

the famous ‘demand curve’

P

10€

5€

2€

Q
100 200 500


P

10€ R = 10€ x 100 = 1.000€

5€

2€

Q
100 200 500


P

10€ R = 10€ x 100 = 1.000€

R’ = 5€ x 200 = 1.000€
5€

2€

Q
100 200 500


P

10€ R = 10€ x 100 = 1.000€

R’ = 5€ x 200 = 1.000€
5€

R” = 2€ x 500 = 1.000€
2€

Q
100 200 500

can you be a volume + price based business?

shift the ‘demand curve’ - hard, requires a unique
value proposition sustained by heavy marketing

P

10€

5€

2€

Q
100 200 500

shift the ‘demand curve’ - hard, requires a unique
value proposition sustained by heavy marketing

P

R = 10€ x 500 = 5.000€
10€
(5x)

5€

2€

Q
100 200 500

Read more:

http://www.amazon.com/Microeconomics-7th-Robert-Pindyck/dp/0132080230/ref=sr_1_1?ie=UTF8&qid=1304956318&sr=8-1

Costs = Variable Costs x Qty + Fixed Costs

Variable Costs : anything that can be directly
correlated with ONE unit sold of product/service

• COGS : Cost of Good Sold = Cost of Revenue

• usually the cost of raw materials necessary to produce a new
product,
or the cost of original item if re-selling

• add to that anything that can be linked directly:

• commission on each sale; % fee on bank; average shipping &
handling cost (if not added)...

• remember to think in AVERAGE terms

Fixed Costs (standardized) -
main goal is to make them variable

• Sales & marketing (S&M)

• Product / R&D / Technology

• HR : can be factored almost into Product,
S&M, G&A

• General & Administration (G&A) : rent,
lawyers, travel & expenses...

Margin = Revenue - Costs

•M=R-C

• M = ( average Price x Q ) - ( ﬁxed costs + variable cost x Q)

• M = (average price - variable cost) x Q - ﬁxed costs

• M = (Unit margin) x Q - FC

focusing on unit margin gives you great insights

• M = (Unit margin) x Q - FC means

• M > 0 only if

• unit margin is > 0

• (Unit margin x Q) > ﬁxed costs



• M > 0 only if



can you keep
your ﬁxed
costs low ?



• M > 0 only if



are you a can you keep
price based your ﬁxed
business ? costs low ?



• M > 0 only if



are you a are you a can you keep
price based volume based your ﬁxed
business ? business ? costs low ?

startup ﬁnance is like wartime medicine :
ugly but works

http://www.olive-drab.com/od_medical_www.php

Let’s start a T-shirt business !

Sales: remember to focus on UNITS

• let’s be competitive, and check prices
from competition (sales-minus
approach, vs. cost-plus approach).

• Let’s build a business plan on a
14,99€ average price point
for T-shirts

• We can expand into segmentation of
products, of prices, etc. later.

Sales : let’s assume I sell a few ﬁrst per day, then
start increasing sales

• Assumptions :

• 4 T-shirts sold per day

• biz open online 24/7 = 30 days /month => 120 T-shirts/month

• 5% growth / month, but decreasing slowly to adjust for linear growth

• average price: 14,99€ (incl. VAT !)
(19.6% in France means 12,53€ excl. VAT) -
checked with market price/competition

let’s ﬁrst model Revenue - you can play with variables later:
such as discounts, promotions, and ﬂuctuating demand per season

2. COGS (direct costs)

• let’s assume a white T-shirt bought online from a supplier

• look for economies of scale

• don’t forget S&H (incl. here)

• your business plan
should be VAT-free.
Don’t add it, only for
Cash-Flow statements

• Make sure you order with
enough lead-time (1 month?)

let’s now model direct costs - you can play with variables later :
white T-shirts + stickers + shipping

Gross margin has
to quickly
become >0,

>50% is best

3. Indirect costs

• assumptions (t0 = launch of site, add as much HR+G&A for research before)

• sales & marketing : only Google Adwords SEM (assuming cost based on
conversion rates) + a launch budget for display (3 months).

• technology : using a hosted solution to start with :12€/month
http://commander.1and1.fr/xml/order/Eshops

• HR : based on number of people to prepare and ship T-shirts + founder
(ﬁnance, marketing, etc.) - everything else outsourced (incl. as costs)

• G&A : rent, insurance, pro services, etc. assuming a ﬁxed cost :
rent as soon as a hire (300€/person), accountants, phone bills, etc.

last, let’s model indirect costs - you can play with variables later :
Sales & marketing, technology, HR, G&A

Now that your model is built : check for errors

use ‘track depencies’ to check formulas

I always use YELLOW for variables -
check them for likeliness

often use italic to indicate
a result of a formula

graphing an excel row (variable or result)
makes it easier to check validity

checking per period (quarter, year)
is useful + % sales

ps: beware of the last column of a model (doesn’t take into account the next period)

good practices

• Put the hypothesis on each month (eg. growth) : it’s then very easy to adjust
for seasonal ﬂuctuation, or acceleration of growth rate

• Always good to put reality checks in the excel sheet. you can always hide
them later. I put them in italic.

• always good to number each sections item, makes it very readable

• make sure you document every important cell or formula

• it’s best to put assumptions in a separate sheet afterwards.

Read more:

http://www.amazon.com/Financial-Modeling-Simon-Benninga/dp/0262026287/ref=sr_1_1?s=books&ie=UTF8&qid=1304957285&sr=1-1

Break down analysis as %sales / year (~ per unit)

Helps understand breakdown of
costs, and efﬁciency potential

Graphs (and values) show proﬁt >0 ~ month 35...

Changing variables allows to tweak & adjust
business model
Just changing price from 14,99€ to
18,99€ brings proﬁtability at ~month 24
(1 year ahead). Volume to be adjusted.

will the offer be competitive and
attractive?

Changing sales volume from 4/day to
10/day brings proﬁtability at ~month 23
(1 year ahead). Price to be adjusted +
marketing expenditure.

Can you validate conversion rates
early enough, hence marketing
expenses and traction of offer ?

Summary 1 : building a business model

• Build a model of your business : the algorithm ﬁrst, with all relevant variables

• Make your spreadsheet easily readable, commented, well formatted : you’ll
use it to ﬁne-tune your business, and to share with investors later on

• Don’t forget to double-check in all possible ways for errors

• Then, check that your variables are in a realistic range

• Finally, and only then, start testing different scenarios by just changing one
or two variables.

Summary 2: key insights

• Breakdown in 100% of revenue of ONE unit of sales

• When are you profitable ? (in months?)

• How many units do you need to sell to be profitable ?

• Elasticity of variables (impact of each on target objective;
examples = profitability, market share, revenue milestone, etc.)

• In upcoming class on fundraising :
helps assess how much money you need to raise

Financial modeling for startups

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