Revenue is the start of the monetisation of a startup. It’s about those first paying customers, and the early months when you need to think about your customer acquisition strategy and sales targets. However, some founders can be overly optimistic when making these plans.
There isn’t anything wrong with having a positive mindset when casting your first revenu budgets, but at the same time, you’ve got to be mindful of costs and cash flow. In this sense, planning your first revenue budget isn’t quite as straightforward as it looks.
Fortunately, we have someone with real experience in these matters at thestartupfactory.tech to provide us with some key tips for founders looking to plan their first budget. Here are the thoughts of Elliot Smith, a long-standing partner of tsf.tech and a finance professional of twenty-years standing, on how startup founders should approach the issue.
Budgets need to inform your strategy
Elliot: “Quite often, businesses don’t use budgets or forecasts as an internal document that informs their strategy. They do the forecast, and then it gets put away in the drawer to gather dust.
They don’t really use them to think about how they’re going to monetise their product or how they’re going to scale it over a period of time.
When I’m building up a forecast, I tend to look at the revenue side of things first. You’ve got to look at your pricing, your different income streams and your sales methodologies.
There’s a whole host of things to consider when building these models. It’s not a plug-and-play type of thing. You have to put some thought into the process before you sit down to put these numbers together.”
Your first budget is a controlled experiment
Elliot makes a great point here. Most people do their budgets but don’t actually use them as a reference point. Yet in your first twelve-months, your revenue costs and cash flow are still very much in the testing phase.
You’re still testing that commercial validity, so you need to use your budget to test any underlying assumptions you have about the next twelve-months months – pricing, number of customers, unit volumes etc..
Pricing informs budgets
You also need to refer back to your first budget for things like pricing. You need to look at the unit cost and the impact that scaling and acquiring customers is going to have on your finances.
Omitting to consider your pricing can cause your entire financial model to go out of the window, so make sure you include it in your first budget and be clear on your assumptions.
Be realistic, not overly optimistic
As a startup founder, we tend to be very optimistic about what we’re going to do and how everyone else is going to interact with our end product. However, when it comes to setting out a revenue budget, how optimistic should we be?
Elliot gave us the answer:
Elliot: “We’re all used to this saying ‘think big’ in business. However, I think there’s got to be an air of realism here too. When you’re putting a revenue budget together, you’ve got to know your market first.
Then you can start to make realistic assumptions. You can’t just assume you’re going to get 5% of the marketplace from a standing start and build up to £10 million sales in the first twelve-months. There has to be realism here about the hard yards ahead.
What I tend to do is put a couple of models together.
Firstly, I create a financial model for your ‘worst case’ and be very conservative, and then create a separate model for your ‘best case’, with much higher growth assumptions. From this, you can then produce a third model somewhere in the middle that tends to be a little more realistic – your ‘expected case’.
However, don’t build a model that’s really rigid either. In the early stages of a startup, there will be a lot of changes, and you have to be prepared to move with the times. It’s important to look at the revenue drivers – number of customers, pricing, units sold, frequency of sales – and not just plug in a random set of sales figures”
Being flexible with your budget
Your first revenue budget is always going to be a projection. It’s not going to be completely accurate, but if you’ve got a good grip of the opportunity in hand, you can make some sound financial decisions as the business moves forward.
From a finance perspective, you need thoughtful, targeted numbers, but I wouldn’t obsess about finessing the details. Just look at your most realistic assumptions and plan from there.
For example, let’s say you set a target of twenty new customers a month for the first three months. That’s a good target to start looking at. Then, you can look at that in a greater level of detail.
You can ask yourself, how do I win twenty customers? A month in, you can review this – “Why haven’t I won twenty?” or maybe “ Why have I won twenty-five?”
We can all be very ambitious in our revenue targets, but what’s the cost of actually achieving them? What are we learning? Where’s the business going? These are the kind of questions you need to reflect upon when building your first budget. They will give you direction, and important learnings for future growth.
Some common revenue budget mistakes
Elliot: “One of the most common mistakes I have seen startup founders make in their budgets is failing to look at costs.
Not only do you need to have a firm grip on your marketing costs and costs of acquiring a customer, but there are also details like payment terms. If you are generating revenue, how is that revenue going to get paid? Is it on credit terms? Is it thirty, sixty or ninety days?
If you don’t take your payment terms into account, your revenue budget may be relatively healthy, but it can be a completely different story from a cash flow perspective.
Many startup founders who are keen to make the sale, shred their pricing strategy and flex on discounts and payment terms to win the deal, which is a nightmare for cash flow if your sales are growing month by month!”
Get yourself a good accountant
There is definitely an input and output side to building that first revenue budget, and each of these steps needs careful consideration before leaping into anything.
I would encourage any startup founders to speak to an accountant like Elliot with good commercial experience. These people can take a realistic approach and look at all of the details you might be missing, which may impact the future of your business.
I hope that was useful!
To get in touch with Elliot about setting up a revenue budget, you can contact via email at firstname.lastname@example.org.
You can also listen to the full conversation on revenue budgets by checking out episode 20 of our podcast “From the Factory Floor”. Alternatively, for any information about setting up your tech startup, feel free to email me at email@example.com.