Financial Decision Making in Startups

http://grad-insights.com/wp-content/uploads/2015/09/counting-money-1050x788.jpg

BY TAHMID SADMAN

The focal point driving a business’s success is a combination of a host of components ranging from a great idea to sound financial planning. Financial planning has been in the spotlight for quite a while and rightly so. It is a discipline which decides the fate of the business. The survival of any business hinges heavily on robust financial planning. For startups, financial planning is just as important or even more so, considering the fact they are new businesses which need a solid platform to take off.

  1. Planning the costs– Key financial variables such as fixed costs, variable costsare absolutely crucial for a startup’s financial structure. It is important to ponder over these to get a good grip on financial planning. These two variables feature prominently in any investment decisions. It is important to take into account objectives, short term goals, strategies and revenue forecasts before calculating these costs. Startups tend to reshape their strategies, so it is important to spot the core needs before investing in fixed costs.As for variable costs, understand the production process of the service thoroughly and think of different ways to deliver the service or produce the product, then chose the most efficient method. Finding good deals with suppliers is crucial in this regard. While calculating costs, one must also leverage connections, seek expert advice from mentors or take the help of startup incubators. Without knowing how much money to raise, the chance to lose focus is always on.
  2. Choosing the source of finance– Entrepreneurs can either chose bank loans, seek government grants or funding from angel investors. While choosing bank loans, one can avail the services ofSmartKompare, a Bangladeshi startup which compares the particularities of loans hence helping its clients make better decisions. One can apply for a loan through their site. Entrepreneurs can also look for swapping services like free equipment sharing in exchange for providing technical advice.
  3. Pricing- This needs special attention as pricing is the only “P” that ekes out revenues. Pricing strategy depends upon a multitude of factors- the novelty of the product/service, the state of competition, the value addition offered, the structure of the industry, the elasticity of demand, etc. Hence, a lot of deliberation is needed to set the strategy,
  4. Break-even point of sales- The break-even point lets you know how much units a business needs to sell to cover both variable and fixed costs. It can be calculated by Fixed costs/Contribution margin.

This enables businesses to have a clear idea of the direction it is travelling. The break-even point also gives businesses control over costs and also help it determine the margin of safety. The margin of safety is the range of the level of sales which will fetch profits. It can be calculated by the following formula:

Current Sales Level – Breakeven Point
Current Sales Level

A high margin of safety will mean a firm has a lot of leeway to experiment with prices or promotional strategies. While a low margin may compel the firm to cut costs or downsize.

  1. Speeding up accounts receivables– According to Zahedul Amin, a director of LightCastle Partners, 70-80% of the startups close down due to lack of cash. He recommends regulating accounts receivable efficiently and striking deals with suppliers who offer generous credit terms. Accounts receivables can be quickly be realized by offering all types of standard payment options, reducing the period within which the payment has to be made, or offering incentives for paying early.
  2. Managing working capital- Working capital is the capital available for financing day to day operations of a business.A business needs to plan carefully in order to manage working capital. During times, when demand peaks, a firm must have adequate liquidity in its arsenal to cover financing inventory; it must also be able to cover up day to day expenses and its debts. To ensure liquidity, it is important to create financial buffers-a cash reserve for example. Keeping an eye on youroperating cycle is crucial here. The longer the operating cycle, the larger the working capital needs. Also, it is important to look at important ratios such as current ratios, inventory turnover ratios, receivables turnover ratio, accounts payable days as they fall in the realm of the operating cycle.
  3. Don’t go on a spending spree- If you have an impressive cash reserve, don’t go on a spending spree. Invest wisely. Spend the money on product development, conduct surveys to glean pivotal facts regarding customer perception or just use the muscle of your cash to throw promotional offers Don’t venture into unchartered territories. It is important you invest in something with which you are well versed.
  4. Forecasting-Income statement forecasting should be done on both a conservative basis and an aggressive basis. During the exercise, it is also important to incorporate risk management principles. This is likely to yield multiple scenarios; entrepreneurs can then get a better idea of what to expect; they can then act accordingly.com suggests the following when forecasting expenses:
  • “Doubling forecasts for advertising and marketing costs
  • “Tripling your estimates for legal, insurance and licensing fees
  • Considering direct sales and customer service time a direct labor expense

 

Source: SDAsia

Tahmid Sadman is a guest contributor to Gradinsights, the career research service of GradConnect. He can be reached at tsadman3@gmail.com. More articles from Tahmid and the GradInsights team can be found at www.grad-insights.com.



Post your comment