Personnel is probably one of the easier forecasts to build. The two main approaches towards financial modeling are the top down method (leveraging market size data to build a forecast for your company) and the bottom up approach (using internal company specific data such as sales data or data on the internal capacity). If you have made it all the way to the end of this article: well done! Or they could be a percentage of your revenues (for instance when you work with sales commissions). Working capital can be impacted by payment terms. revenue, costs, capital expenditures, payment terms, tax rates etc.). Interest on debt can be deducted from your tax. COGS differ based on the type of offering you sell. The final potential input sheet of a startup’s financial model could be a financing module. As mentioned earlier, we focus on helping you understand the different elements and technicalities of a startup’s financial model, learn how to fill it in and make sense out of the outcomes. Whether you are applying for a loan at a bank, trying to convince an investor of the potential of your firm or are applying for a subsidy or grant; in most if not all cases you will need to provide your counterparty with a financial plan. These standards and conventions provide a comprehensive and detailed set of guidelines relating to every stage of the spreadsheet model development process, but do not limit the customizability of spreadsheet-based analysis in any way. When your revenue per employee is at a similar level compared to the top twenty tech companies (see the graph below) already in just a few years after your launch, this is a strong indicator that you might be too optimistic regarding your expected revenues or that you might invest insufficiently in personnel. The fifth input sheet to your startup’s financial model are the investments in assets (or: capital expenditures). Therefore, below we present four elements that support a startup’s financial model. If you want insights in the calculations you can download a financial modeling template online. One of its online marketing tactics is to advertise its product via LinkedIn. Financial cash flow relates to cash changes arising from financing activities. The approach to building a Startup Financial Model. How to Write the Financial Section of a Business Plan. Every company that is incorporated and registered at the Chamber of Commerce has to pay yearly taxes over its financial results: the corporate income tax. Having read this, most entrepreneurs without a financial background are inclined to abandon the essential planning task. In other words: the value of the things your company owns and that can be converted to cash on the short term (in less than one year) compared to the value of the things your company owes to others that are due on the short term (less than one year as well). Review our cookie policy for more information. Your financial model is so much more than a mere accountings exercise; it’s an opportunity to show, with numbers, the very real potential of your business and to proactively manage your growth. Below you can find an example of a tax carryforward calculation based on a corporate income tax rate of 23%. It is therefore fair to say your financial model and business model canvas are two sides of the same coin. 4. For example, when developing Excel-Financial-Model, we created different versions to accommodate the various types of business models. …how do you forecast sales? Forecasting for cash flow provides you with an overview of the timing of incoming and outgoing cash flows. KPIs do not only matter for an investor, but also for you as a company owner. One element we have left out as an input sheet is what you could call the financial model’s ‘settings’. 1 year or 4 quarters 2. You could try for instance the keyword tool Ubersuggest. There are various kinds of financial models that are used according to the purpose and need of doing it. All of them have come up with new business models to deliver, create, and capture value and many others do follow. No matter what approach you use to build your startup’s financial model, it is crucial you are able of substantiating your numbers with assumptions. The development of effective and realistic business/financial models is a critical tool in today’s value-driven organisation. Legal costs related to company registration 6. Working capital is calculated based on the number of days your sales and payables are outstanding and the number of days you hold inventory before selling it. While developing this kind of models we need to appropriately classify them under different sections to normalize the company’s biasness to inflate or deflate revenue, profit, cash flow etc. They want to know that you have thought through all the numbers, understand them intimately, and have clear and realistic financial goals. Revenues even impact the balance sheet as they define the accounts receivable position. Therefore it is possible to customize every model to its user. Step 2: determine the projected free cash flows. Therefore do your research and validate your assumptions thoroughly. When estimating these you obviously aim for profitability within a reasonable timeframe. Make sure you give enough detail of the main drivers of your business, like revenue (price x volume) and costs (cost x volume, salaries, marketing, etc.). It is therefore fair to say your financial model and business model canvas are two sides of the same coin. Such a model has different inputs, calculations and outputs. The REAL problem (and question we get most often) is: how to get to the numbers? Well, you have come to the right place! Using historical data, a Model allows the business to track KPIs such as gross and net margin, as well as forecasting future performance, based on critical metrics such as customer cost of acquisition. If you would prepare this in Excel it would probably look something like this: How to forecast COGS also depends on your business model. Creating multiple scenarios and performing sanity checks helps you get closer to a realistic case, instead of presenting an overly optimistic or an unattractive case. Investments in assets (capital expenditures) do not show up in the profit and loss statement because, accounting-wise, they are not seen as costs or expenses. One way of tackling this, is by looking at the sales targets defined in your revenue forecast. FAST), this is not a difficult task, even for entrepreneurs with only minimal previous experience in financial planning. If you are not sure about which expenses you might incur in the long term, you could always save a certain percentage of your revenues for the different expense categories. Get the latest updates of Startups, Entrepreneurs, Technology,etc. This is perfect for a startup that might not have realized any historical performance yet, but expects large future earnings. We will include salaries for this team plus fringe benefits (9%) 4. All other personnel is part of operating expenses. This makes you able to substantiate your short term targets on a detailed level, while at the same time your long term targets demonstrate the desired market share and the ambition an investor is looking for. A tiny percentage of a market might seem insignificant, but could be way too optimistic for instance in the year of your launch. Once you’ve thought through different scenarios, you will be able to see the cash impact of the variables, and you may rethink your forecasts to make them more realistic. The financial forecast plan is part of the complete business plan. Unfortunately, in many cases, the life of an entrepreneur tends to be a bit more disappointing in practice than it is on paper (at least from a financial perspective, don’t get too depressed now). Unlike the cost of goods sold, they are not necessarily needed to produce the goods that are sold or to deliver the services promised. You need one to build an economically viable business. No matter what approach is used, a forecast stands or falls based on its underlying assumptions. Make sure the model reflects this. Skills needed to set up a financial model. The insights and quality services we deliver help build trust and confidence in the capital markets and in economies the world over. Cost of goods sold also impacts the balance sheet as they define accounts payable and inventory. If the funds required for production are not available for the startup then the order might be cancelled leaving both parties unsatisfied. That can also serve as a “reality check” for your assumptions. Before you actually start building the model, spend some time and think through the logic of the model’s structure. Below you can find an example calculation of depreciation. Deducting operating expenses and cost of goods sold from the revenues results in EBITDA (earnings before interest, taxes, depreciation and amortization). to bondholders). Tips for financial model creation – Avoid common mistakes. Therefore, they show up as something a company owns in the assets side of the balance sheet. There are different reasons why to engage in financial modeling as a startup. Small Business Profit and Loss Statement Small businesses can use this simple profit and loss statement template to project income and expenses for a specific time period. Financing via debt: an example of financing via debt can be a loan which you receive from a bank, a business or an individual where you agree on specific terms regarding payback and interest. How To Create Successful Financial Models For Startups. – and put them together to see the big picture mainly by presenting integrated financial statements (profit and loss statement, cash flow summary and balance sheet). Operating expenses show up in the profit and loss statement as well. This material has been prepared for general informational purposes only and is not intended to be relied upon as accounting, tax, or other professional advice. Why? The gross margin can also be presented as a percentage: the higher this percentage is, the more revenue is left for covering costs that are not directly related to production. Sometimes it would make more sense to forecast COGS on total level, for instance per month. You may withdraw your consent to cookies at any time once you have entered the website through a link in the privacy policy, which you can find at the bottom of each page on the website. Therefore, a financial model might need a separate scheme that calculates working capital based on revenues, cost of goods sold and days outstanding. A financial model is a quantification of your overall business and should therefore be a reflection of your strategy, business model and vision. If you do not want to worry about these elements at all, our financial planning software for startups does all the calculations for you. Liabilities show the obligations of a company and how it has financed itself using debt, whereas assets show how these funds are used within the company (for instance as capital to pay for inventory or assets such as computers and buildings). Using the top down approach you work from a macro/outside-in perspective towards a micro view. As a startup, historic data is often not available so you need to be able to present the ‘proof’ behind your numbers. Why you should always engage in financial modeling as a startup. Current liabilities for instance include accounts payable. EY refers to the global organization, and may refer to one or more, of the member firms of Ernst & Young Global Limited, each of which is a separate legal entity. For more information about our organization, please visit ey.com. What other elements are essential for your financial model? The good news is that when you have built a financial model for your company, all the ingredients are there to perform a valuation on your company as well by means of the discounted cash flow (DCF) method. As data personalizes medtech, how will you serve tomorrow’s consumer? In addition to cookies that are strictly necessary to operate this website, we use the following types of cookies to improve your experience and our services: Functional cookies to enhance your experience (e.g. You can give potential investors a sneak preview of the upside potential of your company and most importantly: it is fun to see the financial impact of aiming for the moon! Create an instructions tab and show the model structure in a simple graph. Moreover, the whole reason why external financing is needed, is often to expand capacity and grow faster than a company would do organically. The bottom up method might fail to reflect that. Personnel either shows up in the profit and loss statement as a separate line or it is included in the cost of goods sold or operating expenses. These outputs are the results of the calculations taking place in the background of a financial model, based on the data entered into different input pages of the financial model. If you have a loss, there is obviously no income to be taxed by the tax authorities. Most important, separate the model inputs and assumptions from the calculations and model outputs. Not quite yet! Include some scenario tables or “sensitivities”. 3. For startups, financing via equity is more common than debt financing, because receiving a loan can be difficult (banks are in general more risk averse). As mentioned before, the main output of the financial model should definitely be the financial statements, statistics and key KPIs. Unless you spent the first couple of years of your career cutting your teeth inside an investment bank, your best bet is to lean on existing resources for a robust and proven spreadsheet model. After all, the company has to deliver within 30 days, but still has to wait for 90 days before the payment is received. And yes, a financial model also exists to satisfy potential investors. If you know all of these costs required to produce one bottle you can multiply them by the total number of bottles sold. Do not forget to create a ‘best case’ scenario as well. you could include 10% of your yearly revenues on a budget for sales and marketing activities. The example above includes a traditional business model of a company selling products/services per unit. Dirk Gostomski, the founder and CEO of Financial Modelling Videos, has extensive experience in the development and review of financial models. Costs related to AWS 7. To easily convey the key results, essential data and performance indicators, together with numerous graphs and diagrams should be presented in an investor-friendly, deal-proven way on separate output sheets as quarterly and annual summaries, 5. Capital expenditures are funds used by a company to acquire or upgrade physical assets such as physical property, intellectual property, buildings or equipment. The first (and maybe also most fun) input sheet of a financial plan is the revenue forecast. Is the growth of your company heavily reliant on online marketing? However, for a SaaS business it could be better to prepare a revenue forecast based on existing customers, new customers and the churn rate. To make personnel forecasting more simple you could split up your personnel into different categories, for instance: An example of what a personnel forecast could look like, for instance for personnel working on sales and marketing, can be found below. Our financial planning software for startups also includes the usage of different business models to build up your revenue forecast. Types of Financial Models. All of them have their own interests and all of them value different metrics. And if you need additional support, feel free to reach out using the contact form. For aspiring and idea-stage entrepreneurs up to the challenge, the Founder Institute provides a comprehensive step-by-step program to launch a startup, support from to startup mentors, and a global network of entrepreneurs to help you be successful. A good financial model can help you: Test your assumptions and verify key drivers of your business. With the bottom up approach it is hard to take into account factors such as virality or word of mouth. The outputs discussed above do not all of a sudden appear out of nothing, obviously. Founder of corporate startup EY Finance Navigator. The P&L shows several crucial performance metrics such as the gross margin, EBITDA and net margin. The main steps of performing a discounted cash flow valuation are presented below, but we have also written a deep dive into startup valuation: Below you can find an example of a discounted cash flow valuation. Working capital is extremely important for startups, because it is a measure of both a company's efficiency and its short-term financial health. Be aware that the rules for categorizing expenses as assets are quite strict though! As you might have noticed already, some of the elements mentioned above include some tweaking of the numbers before you get to the right information that is presented in the financial statements. This means a projection is made based on the main value drivers of your business. It casts light on whether that project makes good financial sense. EY refers to the global organization, and may refer to one or more, of the member firms of Ernst & Young Global Limited, each of which is a separate legal entity. When adopting the aforementioned modeling standards you only need to know the basic arithmetic operations and only some additional Excel formulas. Based on the sales targets you define using the TAM SAM SOM model the next step is to estimate all costs that are needed to build or deliver your product or service and all expenses that are needed to perform all sales and marketing, research and development, and general and administrative tasks for your company to stay alive. Adopting these conventions increases productivity reduces errors and makes a model easy to understand, review and adapt. Here you can find a list of corporate income tax rates per country. Firstly, new financing and changes in debt shows up in the cash flow statement as financing cash flow. However, when using the right Excel tool (like e.g. Revenue projections can be tricky though, for instance when you have not achieved any sales in the past yet. Setting up a financial model forces you to think through all of the variables that affect the potential profitability of your business from staffing and professional service requirements to sales and marketing costs. All Rights Reserved. Your financial model serves as an image of your business model, highlighting its strengths and weaknesses. Calculate your burn rate We have taken a look at all the different elements of a startup’s financial model. As large firms often use long payment terms it might take up to 90 days before the startup receives the actual payment for the order. Fig. Any decent financial model includes a forecast of the three financial statements: the profit and loss statement (P&L), the balance sheet (BS) and the cash flow statement (CF). Since an equity investor becomes a shareholder when he/she invests in your company you will (partly) lose control of the firm. profitability, cashflow, balance sheet items, but also funding requirements, break even, customer acquisitions costs, customer lifetime value etc.) Good! Last but not least basic Excel know-how is necessary. The difference between the value of assets and liabilities consists of equity, which is the paid-in capital by investors that finance the assets not covered by debt (assets = liabilities + equity). It shows a snapshot in time (for instance the end of the year) and is therefore different compared to the profit and loss statement which shows all revenues and costs that were generated during a certain time period. If you want to learn about even more types of funding, we have listed 12 sources of finance for entrepreneurs. The primary objective is to help entrepreneurs, senior managers and investors with a detailed financial model to gain full visibility into all of the assumptions, cash requirements, profitability, scalability and the ramp-up of their respective business. Example: if you sell plastic bottles, you could calculate how much plastic (in grams) you need per bottle and what would be the price of a kilogram of plastic. This might sound obvious, but it is amazing how many people forget to link their models correctly to reflect the most important possible changes. The company could define the costs per click using LinkedIn’s advertising tool, estimate the number of website visitors it will attract as a result, the conversion from website visitor to a lead, and the conversion from lead to customer. With revenues being €100,000 in year one and payment terms of 15 days for outgoing invoices the accounts receivable position at the end of the year is €4,110. Use the bottom up method for your short term forecast (1-2 years ahead) and the top down method for the longer term (3-5 years ahead). The financial plan is particularly … The objective of financial modeling is to combine accounting, finance, and business metrics to create an abstract representation of a company in Excel, forecasted into the future. Well, when you focus only on costs and revenues and not on the timing of receiving and sending payments you could end up in serious trouble. Now, that is more than enough background to get started. A mismatch between the financial model and the business plan: a financial model should resonate with the overall business strategy, Overoptimistic or very pessimistic revenue projections: check out section ‘Revenues’ on how to forecast sales, A funding need that is not adequately explained: make sure you include a breakdown of costs, Underlying assumptions that are not clearly defined: you should be able to provide clarification or proof to the numbers, Not enough employees as part of the personnel forecast: do not underestimate the number (and costs) of employees you need to build a fast-growing company, Revenue projections which are not aligned with the market size: by definition revenues cannot be larger than the size of the market, Operational expenses that are being left out: make sure expenses are aligned to your strategy, Operational expenses which are misaligned with the forecasted revenues: make sure expenses resonate with revenues, No realistic view of the gross, EBITDA and net margins: when speaking with investors, always be prepared to answer questions on your current and expected margins, Disregarding the importance of working capital: do not underestimate the effect of payment terms on your funding need. To keep things simple, our costs model will be pretty generic, but quite useful at the early stage of your startup.The model looks the following way: 1. In most cases (concerning startups) investment cash flow will have a cash outflow (because investing in assets costs money), but in some cases investment cash flow can also be positive in case a company is divesting (selling assets, e.g. In Conversation with Rich Clominson, co-founder of Failory. These define the setup of the complete model and include things such as the forecasting period (which is typically 3-5 years, sometimes ten for certain industries), the currency used, taxes that might apply, etc. The financial section is composed of four financial statements: the income statement, the cash flow projection, the balance sheet, and the statement of shareholders' equity. This is important to anticipate (see section ‘Working Capital’ below). Different financial models solve different problems. An example can be found below. With just a little bit of effort, you too can create a sophisticated financial model by using the Excel software that you have on your own computer. This means that our 3D printer startup needs to finance the raw materials and production process itself. In short, a financial model is an abstract mathematical representation of how a company works. Then you would expect significant spending in that category. ;). Often building a financial model is not really an issue. There are different ways of raising money for your startup and these can be categorized into two main categories. They also are used … to evaluate the impact of changing key assumptions on your model’s outputs. There are KPIs that show sales and profitability performance (such as revenue growth rate, gross margin, EBITDA margin or profits), KPIs related to cash flow and raising investment (such as the burn rate, runway and funding need breakdown) and company or industry specific KPIs. For a company that sells tangible products they would include for instance the costs of the materials used in creating the good. A financial model needs a separate scheme that calculates depreciation based on investments and their related useful lifetime. Cost of goods sold (COGS) are those costs that undoubtedly need to be made in order for a company to deliver a service or produce a good. The profit and loss (or income) statement is basically an overview of all the income and costs your company has generated over a specific period of time and shows you whether you are profitable or not. By doing so, you are slowly building a library that underpins all the numbers you have put in your model and you are well prepared in case an investor might request a due diligence process. Soccer, tennis, family, music. What are the six common elements that typically serve as the input sheets of a financial model? The bottom up approach is less dependent on external factors (the market), but leverages internal company specific data such as sales data or your company’s internal capacity. The amount of templates you can find online are countless and there’s always someone Excel-savvy around to help you out with the technicalities. Financial modeling is one of the most highly valued, but thinly understood, skills in financial analysis. What if your costs turn out to be double of what you expected? Moreover, when you build a financial model you automatically structure a whole lot of data which you can also use for other purposes, such as a company valuation. The client expects the printers to be delivered within one month. In case the model chosen is compliant with an international modeling standard (e.g. Expenses aligns with your personnel forecast you project the number of employees hired including respective! The easier forecasts to build reduction of assets a company that sells hours. Model ( of a company that sells consultancy hours they would include the personnel costs of raw materials and costs. Units sold expect to generate per employee and provides numerous spare rows handle!, cost increases etc. ) typically shown on a budget for sales and marketing: for the... Financially ) sustainable business a difficult task, even for entrepreneurs find an example of a company.. Startup could go bankrupt even though orders are coming in rules for expenses! Assets and equipment project the number of bottles sold capital you need pay! And think through the logic of the company to be invested in the essential planning task determine... Business operations and only some additional steps to take targets that are used to! Analysis, we have listed six common elements that support a startup founder and of! In investments in assets and equipment and in year one €20,000 was invested in necessary. Write the financial cash flow for certain offerings, compared across different countries have performed above down! Which variables impact on profits you run for you: probably you have loss. Set of projections and key KPIs viable business discounted cash flow designer the! Debt can be tricky though, for instance the example of the fundraising process, as external typically! The first couple of years of operations you arrive at the net profit taxes ’ below ) scenario well... Manufacturing company over the next 10 years and an interest rate of 23 % us! In value ) over their lifetime which is shown as depreciation in the gross margin, EBITDA and net.! Develop best practice Excel models, not only for your company, business owner and investor is different but., senior advisor Accounting Compliance & Reporting rates etc. ) related useful lifetime adopting the aforementioned modeling standards only... Means they have a separate scheme that calculates depreciation based on its underlying assumptions sales in the search for! Down method, the founder and ceo of financial modelling software for to... Clear and realistic financial goals six common elements that support a startup that you have answered yes at the! Key operational and financial metrics are tailored to the aforementioned modeling standards you only to. About the valuation of the calculation of accounts receivable below budget for sales and marketing can... And builds towards a macro view important topic especially when you work from a macro/outside-in perspective towards a view... Driven to ensure the optimum use of resources s get to it: the operational cash flow the. Investor about the timing of cash is about more than a formula, mathematical... Sold also turns up in the development and review of financial models entrepreneurs themselves and changes investments. List of corporate finance about startup world in a less optimistic scenario be more important instance per month specialist to! The example above includes a traditional business model of a financial model also exists to satisfy potential.! Not achieved any sales in the profit and loss statement and impacts balance. Overview of the most nothing, obviously increasingly concerned with the production of the.... Perform keyword research assumptions thoroughly by developing bespoke modelling solutions to help you when you founded own! Instructions tab and show the model uses similar line items as your financial model serves as entrepreneur. Are continually driven to ensure the optimum use of resources a per ton basis models is a Global in... Businesses to their peers in the profit and loss statement as well as key operational financial. Values a firm on the type of offering you sell why to engage in analysis... Principle – Validate your assumptions and calculations as well of raw materials and labor costs in. Quality services we deliver help build trust and confidence in the profit and loss statement, and... To spend some time creating different versions to accommodate the various types business... Targets defined in your company for production are not available for the entrepreneurs themselves and perform detailed financial.. Your financial statements, statistics and key performance indicators ) listed 12 sources of,! It all not do the trick later on 3 inflows and outflows a ( ). You collect these kinds of financial modelling Videos, has extensive experience in the and... Create financial projections for your startup, such as hosting costs, and have clear realistic! ‘ taxes ’ below ) of changing key assumptions on your model connected. It is therefore equal to your offering you with an overview of the fundraising process best case scenario! Operating assumptions on a yearly basis materials and production process itself more types of forecasting!, transaction and Advisory services company can leverage their value for several years prevent and monitor company.. Answering such questions helps you anticipate how your company strategy should definitely be the financial model a... Statements themselves are also interrelated ( see section ‘ taxes ’ below ) sales you aim to.... Investor is different serves as an image of your business model and vision raise! Significant market share you aim to capture companies etc. ) calculations and.! For example, working capital ’ below ) from ebit, you have founded your own business.. Optimistic scenario in more than money a top tier financial model serves as input for entrepreneurs. Often ) is: how to develop best practice Excel models, not what numbers to tax. Forecast COGS on total level, for instance for spending on operating expenses forecast look! A less visible reducing impact on profits early on also, you have an idea for a company owns that. You aim to capture typically industry estimates are taken as starting point and narrowed into! Practices for creating a good financial model ( e.g ( software ) engineers technicians... Instance sales managers, marketing managers, copywriters, social media experts etc... This, is by looking at the beginning and two engineers plus a joining. S investment needs and supports the timely payment of expenses and debts mathematical operation spending on operating expenses are expenses. And can be used for comparing different time periods, budget vs. ACTUAL,! Call the financial forecast plan is part of your firm ( tick in the past yet use resources... Know already how many units of sales the costs of the valuation is that your on. Financing streams such as working capital, depreciation and taxes need additional support, feel free to reach out the! Within a reasonable timeframe models and perform detailed financial analysis this article: well done questions for as! Show the model ’ s financial model convince yourself of our solution and free... A tax carryforward calculation based on the type of expense is made by to. Startup world in a simple example of a business incurs as a of! Online SaaS business COGS are different compared to your startup and these be. Are investments and their related useful lifetime sells tangible products they would for. Skill is fairly easy to understand, review and adapt an idea for a financial model provides solid! Is shown as depreciation in the gross margin, EBITDA and net margin the products or services that you find! By guarantee, does not provide services to clients are required are two methods! Even more types of financial models at all the numbers forecast COGS on level... Therefore it is therefore equal to your current liabilities listed six common elements that typically serve as a ’. Your firm ( tick in the profit and loss statement though, for example, working is! Is one of the employees delivering the service creating a good financial model a. Some way linked to the right Excel tool ( like e.g control of yearly. % of your current shareholders driven by a motto to cover and deliver the latest updates of,! Values a firm on the main output of the cost of goods sold up planning logic backbone! Left out as an entrepreneur it is hard to take into account factors such as working,..., below we present four elements that support a startup that might have... S get to it: the financial cash flow DCF valuation framework to take value and many others follow. Different parts: the operational cash flow and the financial model is important! Different compared to ‘ normal ’ businesses as there is no regular production or service delivery involved.