Tech Startups Need to Manage Financials Well - Now More Than Ever

The top reason tech startups fail is a lack of funding. Countless startups have gone out of business over the years after running out of cash.

Recent trends and economic challenges are making it more difficult than ever for tech startups to secure funding.

Why do startups need expert financial management, and how can they improve their finances? 

Finance Is Critical for Tech Startups

A harsh reality of the tech industry is that money often matters more than ideas.

A tech startup can have a truly groundbreaking, revolutionary idea, but if they don’t have the money to fund development, they likely won’t get far.

It's the survival of the thriftiest in Silicon Valley. To stay afloat and get a product to launch, tech startups need to manage their money wisely. 

This is particularly important today. A 2022 study found that 47% of failed startups went under due to a lack of financing or investors.

That rate is over three times higher than the same number of startups that failed due to a lack of funding in 2020.

This indicates that investors are becoming increasingly wary about placing their bets on startups.

The Changing Landscape of Silicon Valley

There are a few reasons this trend might be worsening. Over the past few years, the tech industry has sparked hype around new technologies that ultimately ended up as expensive failures.

A great example of this is the 2022 crypto crash that ended with Sam Bankman-Fried facing fraud charges while his startup, FTX, went bankrupt. 

Cases like this are leaving investors and consumers alike increasingly skeptical about tech startups. When countless startup founders claim they have the next big innovation, some will inevitably turn out to be wrong.

As a result, investors are more nervous today about losing their money than they were five or 10 years ago. 

The tech industry itself is facing some PR challenges that may be contributing to lower funding for startups.

Big Tech leaders like Meta, formerly Facebook, have faced intense scrutiny over the past few years for issues like data privacy and the impact of tech on children.

This kind of publicity may be leading some investors to ignore tech startups entirely. 

Financial challenges impacting everyone are also playing a role in decreasing investments. Rising interest rates, inflation, and the recession are leaving both investors and consumers with less excess money.

They have to be more selective about where their dollars go right now. Unfortunately, this means that startups have access to fewer funding opportunities than they might have a few years ago. 

The only way for tech startups to resolve these concerns is to demonstrate financial responsibility. 

Financial Best Practices for Startups

Startups can still be successful in the industry. They simply need to take steps to demonstrate financial responsibility and earn back the trust of investors.

Additionally, they need to be more frugal about handling their money. 

Establish Positive Cash Flow

A great way to demonstrate financial stability is to establish positive cash flow. This means there is more money coming into a company than going out.

Positive cash flow strengthens financial stability and creates reinvestment capital as well as a cash reserve for emergencies. This can help attract investors while also creating a safety net in case investment dries up. 

It can take time for startups to generate positive cash flow. At the dawn of a startup, before any products are ready to launch, even as prototypes, it may not be possible yet.

However, over time there are steps tech startups can take to build positive cash flow. 

For example, startups should minimize debt as much as possible to reduce outward cash flow. Additionally, create incentives for consumers and investors to buy in early.

For instance, a tech startup could offer special discounts or limited edition products for early adopters. This creates some early inward cash flow. 

Hire a CFO and Finance Team

Startups have to be frugal about how they spend their money, so it’s natural to try to minimize staff numbers. However, it’s worth investing in a full-time CFO.

One of the big pitfalls plaguing many tech startups today is a lack of oversight for founders. This is part of what caused the collapse of FTX in late 2022. 

Startup founders are often tech visionaries, but that doesn’t necessarily mean they’re financial experts.

Founders are more likely to focus on their product or idea without giving budgeting and finance the attention they require.

Hiring a CFO can allow the CEO and other lead developers to focus on innovation without risking bankruptcy.

A CFO will have the knowledge and experience to guide the startup toward success and growth. Having a CFO on board can also demonstrate financial responsibility, helping earn the trust of investors.

It adds a financial accountability system that ensures spending stays under control. 

Startups should bring in someone from outside the company when hiring a CFO. This ensures neutrality, which is vital for creating boundaries that allow the CFO to enforce responsible budgeting practices.

Hiring an accountant, bookkeeper, or other finance team members is also a good idea for those startups that can afford a larger staff. 

Be Transparent With Investors

Finally, tech startups need to be honest with their investors. Transparency is critical for building trust with stakeholders. It can also create an accountability system that helps prevent irresponsible financial decisions. 

Startups should be as honest and detailed as possible about how they plan to use investors’ money.

For example, investing in AI technology is massively popular today, with over 50% of companies reporting some amount of spending on AI.

Tech startups may be able to benefit from this technology, but they should have a clear case for investing in it. 

Explain that case to investors. Show them exactly how their money will be used, including the growth it could support and the potential risks.

This allows investors to have clear and realistic expectations when they put their money into a new company.

It demonstrates that a startup’s leaders value their investors and show financial confidence.

Building Financial Stability as a Tech Startup

Investment opportunities might be scarce in the tech industry right now, but startups can still succeed. They need to be frugal and careful about how they use their money in order to stay afloat with limited funding.

Strategies like hiring a CFO, generating positive cash flow, and prioritizing financial transparency can help tech startups succeed in today’s market.