Recently I was delighted to write a piece for this illustrious blog entitled Just because you build it doesn’t mean they will come and it appears to have gone down pretty well so the equally distinguished owner of the blog has asked me to have another go. He sent me an email in which he said:
“Any chance you could do me a post on 5/6 most critical numbers startups must know (or put together in Biz plan) to give investors a confidence that they really know their customers, and market.”
And it kind of got me thinking, on the face of it this was a really straightforward question which has a very clear answer, but actually this was a lot more difficult than I anticipated given the increasingly large number of business metrics, analytics and statistics available.
As a result I pondered the question over the weekend by the beach in Greece (I know it’s a hard life), I had a few extra cold coffees, got a bit of a tan and decided on the following 5 key numbers that early stage investors look for.
Now, before you continue I would like to point out that the key numbers I have highlighted below are by no means the only numbers an entrepreneur should know and this list is no a one-size-fits-all prescriptive list. Further, as you will see I am not really focussing on digital metrics per se, as you can tell from the above blog post I think the digital world somewhat deludes itself that it operates in a separate space from other traditional businesses. In my mind it doesn’t, it might have number of web based statistics rather than footfall through a shop door but actually in my mind these numbers are simply a means to an end rather than an end in itself.
So with that in mind here are my suggestions for the key numbers an entrepreneur should know in order to give investors confidence:
1. Cash, Cash and once again CASH!
Cash is king!This is the mantra within the exciting world of accountancy (no really, accountancy is all sex, drugs and rock and roll…honest), as it has become almost universal truth that early stage businesses fail because they run out of cash not because they aren’t profitable or their business concept is flawed.
Therefore we look firstly at your cash flow predictions to see how far the money you are looking for will take you. Ever watched Dragons Den? Often the Dragon(s) like a business but don’t think the money being asked for is enough to do what the entrepreneur wants to achieve and so they decline.
This is the reason. So know what your cash flows look like. What is your worse month in terms of cash balance? How many months “headroom” does that give you? What will your cash balance be if your sales forecast comes 2/3 months later than planed? How long with the investment sought last for? What can you do to manage costs? All of these questions are in the mind of the early stage investor as he wants to get the maximum time for the money being invested as, from bitter experience, they know that the optimistic plans that entrepreneurs present are far from conservative and will take a lot longer than anyone anticipates.
2. Proof of concept
Early stage investors largely want to see some proof that there is a business before they will invest. This is often the Catch-22 situation that entrepreneurs find themselves in as they have a great idea but that doesn’t interest the professional investors, be they angels or funds, unless there has been some start-up capital used to prove there is actually a product or market there. Entrepreneurs will usually have to source some initial proof of concept funding internally (recently I heard it described as Friends, Family or Fools which I thought rather uncharitable even if true).
If you have managed to raise that early capital to prove a concept then make sure you know the numbers inside and out. After watching over 100 presentations in the last year I can tell you that nothing ruins an entrepreneur or management team’s credibility faster than not knowing the detail of their initial results. So study them, learn them, inside and out, back to front. Understand what was good, what was bad and what the opportunities are to develop from this. And be honest, we have usually seen it all before and we are usually pretty good at spotting mistakes so tread carefully when we ask questions (and try to be nice…one entrepreneur decided to lecture 4 accountants about why we were wrong…only we weren’t, he was….didn’t go well).
3. Words = numbers, Numbers = words
The final tip I would give you is make sure your forecasts, or as we would call it a financial model, match the business plan and vice versa. And make sure, particularly if it is prepared by an accountant or advisor, that you spend time to get to know it and understand what is going on. You don’t have to become an accountant overnight but you do need to really know what is going on in your business (or in management jargon speak what are your Key Performance Indicators). Traditionally entrepreneurs spend hours pouring all over their words and presentations with barely a backward glance at their forecasts, which is odd when professional investors usually do the opposite.
To help you along I have previously written a piece on the art of financial forecasting which might offer some assistance when preparing forecasts but the key things that investors look for are:
•Sensible revenue assumptions based on the proof of concept which show that the numbers look reasonable. e.g. for an online retailer key metrics such as number of page views, number of sales, cost per customer acquisition etc. are all vital so that they can judge whether the forecast scalability is achievable.
•Understanding of cost base and the ability to match costs with scaling revenues (which is controllable) rather than costs dictating revenue requirements (which is not controllable). e.g. Sensible wages and infrastructure costs (such as offices and equipment) which grow as revenue grows, and hence can be restricted if revenue fails to grow as expected.
•Detail which indicates planning and forethought. My biggest bugbear is entrepreneurs that simply state that they will spend £50,000 on “marketing”. What type? Where? Internal (i.e. recruitment) or external (i.e. via an agency)? And a million questions like this and whilst we don’t expect you to know every single detail we do expect you to have had some discussions so that you know that the costs you have included are achievable and that you know where you will start as soon as the investment is secured. My favourite presentation, by way of an example was the entrepreneur that was going to grow a market leading consumer brand spending £500 per month on PR (and for those of you that haven’t worked in PR…well lets just say this is unlikely to go a long way) albeit the entrepreneur confessed after questioning that he hadn’t bothered to speak with the PR agency in question to check if this was reasonable.
So there you have it. My top 3 tips when it comes to the numbers investors look for and I am 100% certain that this is not what was expected when the initial blog was requested a couple of weeks ago. I am sure the question was more concerned with click through rates, cost of acquisition, individual page views and the like. But here’s the thing, whilst all of those are very interesting and help build the picture an investor is only interested in one metric, ROI (Return on Investment) and so what they really care about is if their investment has a chance of making it to the next level (risk), whatever that might be, and what are their potential profits at that point (return). Everything else is just there to help them assess and justify the final decision.
Martin Spiller is on Twitter @MartinRSpiller