A common statistic about startups is that about 40 percent fail because they run out of cash or can't raise enough funding. When you look at that number in the context of other statistics, such as the fact that about 90 percent of all startups fail, and 70 percent fail within five years, the landscape seems bleak.
However, my experience is that entrepreneurs make a handful of avoidable financial mistakes in the early days. As is the case with managing most things in my life, I think it's best to step back and view the business holistically so you can make the best possible financial decisions.
Here are five critical financial lessons I learned throughout my career.
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Don't waste resources on expensive law firms when forming the company.
My best advice to startup founders is to handle the formation process yourself whenever possible. One of the biggest mistakes I made early in my career was thinking that we needed to hire an expensive law firm to do things like incorporation, getting a tax number and paying pre-revenue corporate taxes. It cost upwards of $150/hr., and, to be honest, it was a waste of money.
I suggest that early entrepreneurs instead leverage the tech companies that specialize in these types of services (e.g., - Gust, LegalZoom, Nolo, RocketLawyer). For example, we used Gust to handle Food Rocket's legal needs early on. Instead of dropping $10-20,000 on a traditional law firm, we could get everything we needed for an annual fee of $1,000.
- Let the CTO decide which APIs you need.
It's tempting to sign up for as many third-party APIs as possible in the early stages because it seems like it will help you get to market faster. Unfortunately, what ends up happening is you sign contracts too early in the company lifecycle and spend massive amounts of money on services you can't utilize.
The better plan is to let your CTO lead the way on this. Take the time to do a "build vs. buy" exercise with your founding team, and let that inform your decision on which APIs are worth the money. Find a common point to rally around, and make sure everyone is on the same page.
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Know when to hire a financial analyst.
Conventional wisdom in VC has always been that you don't need an internal finance person until later growth stage equity rounds. However, it's a mistake to assume this is right for your company.
I have a background in finance, so this isn't something I experienced personally, but it's something that I frequently see in other startups. Unless someone on the founding team has extensive financial experience and is prepared to step into a CFO role, startups should seek out a financial analyst no later than their first seed round.
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Don't rely on spreadsheets for too long.
My finance experience didn't shield me from the mistake of relying on Excel for far too long. I built our entire financial tracking system in Excel, which was fine initially, but I dragged my feet on migrating to actual accounting software. When we finally did make the switch, it was a tedious nightmare because I didn't consider how the formatted data would transfer over.
Trust me when I say that it's worth the upfront time and money investment to research a subscription software solution for accounting and forecasting. Look for a company that offers expense management, accounting/bookkeeping and cash flow forecasting. Establishing this system in the early days means you won't be scrambling through implementation during a high growth period in the future.
- Don't try to fundraise with zero traction.
If you're pre-MVP and pre-revenue, I strongly advise you not to waste time with fundraising. I made this mistake once. Before my company had a single line of code finished for our MVP, we were already rushing to try to close a pre-seed round. It was a massive waste of time, and it was stressful and demoralizing, too.
Investors want to see something tangible and actionable. Walking in with a mediocre pitch, no MVP and no track record shows investors just how green you are, and it's almost certainly going to lead to rejection.
Unless you're a previously successful founder or have an exceptional pedigree (e.g., - worked for Google, graduated from MIT, etc.), focus on developing your product and getting it to beta testers. This gets you feedback and speeds up the time it takes for users to actually pay something for your product.
Also, don't worry so much about fundraising unless you have a specific, essential need for the cash! Otherwise, it's better to keep building and growing so that you have something impressive to show investors when the time comes to raise capital.
Remember the Number One Key to Financial Success
The most important thing for a startup's financial health is to manage its cash runway. Cash is the lifeblood of the company, so it's imperative to make connecting all disparate systems a priority. This is how you can ensure all financial data flows into your books correctly.
Founders who can take these lessons to heart are much more likely to get started down the right path early and avoid a lot of potential headaches and disasters along the way.