Written by Itay Sagie, Co-Founder at VCforU.com
Many entrepreneurs struggle with the financial plan for many reasons. For early stage companies, we are talking about a forecast with too many unknowns for it to be executed as planned. Nevertheless there are a few tips you can follow to create a financial plan that make sense.
1. Assumptions are the root of your entire plan. The investor will grill you about your assumptions to make sure they are realistic and you know your stuff. Some assumptions can be validated, such as the expected price for your product based on market research, willingness to pay survey, comparable prices of competitors etc. The same goes for your margins, and more. These are parameters which can be estimated relatively accurately. What is very difficult to forecast is your growth rate, especially in early stage companies.
2. Create an “Accumulated EBIDTA” to try and calculate your “cash dip” or “cash need”. The round size should be a bit larger than the dip, for example 20% higher to be on the safe side.
3. Make sure the round size / cash dip makes sense relative to the stage you are at. For example, if your cash dip was $4.5M but you are raising a Seed round, you will have an issue as it is much higher than normal Seed rounds. In this case I would suggest you either review your numbers, expenses, assumptions or if this is the actual cash need (normally the case in hardware related startups or medical related companies) then you could split the amount to two sperate rounds or one round in two trenches.
4. Make sure your 4 or 5-year revenue forecast makes sense for an investor. VC firms will want to divest after a few years, if they invested $1M, they will want to get $10M after a few years (10X return). So, if the investor has 25%, it means that depending on your industry’s revenue multiple (for example 3) your revenue should be around $13M in year 4 or 5. This means your valuation upon exit is around $40M, thus the investor will get back $10M. If your forecast says $1M in year 4, then the investor has no incentive to invest. On the other hand, if your forecast says $150M in year 4, your might be perceived as “over optimistic” or much worse.
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