Startup finances explained: from cash flow to ROI

A solid financial plan is the backbone of any startup. From cash flow and balance sheets to profit and loss accounts, understanding these key terms helps you stay in control. This guide breaks down the essentials - without the jargon overload.

Introduction

In order to run a company you need capital. So you need to prepare a solid projection of your company's first years of life. The most important financial tools for a company are:

●        The planning of the cash flow.

●        The balance sheet.

●        The profit and loss account.

These three elements make up the annual account. This annual account can typically be found in the company's annual report. The annual report summarises what has happened during the past year.

When preparing a financial plan you have to eke out the sensitivities in the calculations. Play around with some of the variable factors so you can uncover the strengths and weaknesses in your story. Do this before your investors do it for you.

Above all, never let an outsider be the one to elaborate your financial plan. You need to find out how things work and to have full control over your own financial plan.

You can find examples of financial plans all over the Internet.

Cash in and cash out: cashflow planning

Investors will want to know how much money you need, and on which products and services you will spend this money. First of all they want a prediction of the amount of money you will be spending (cash-out), and the amount you expect to make (cash-in).

An investor will attach very little importance or belief to a financial plan for a decade. In fact it will be to your disadvantage to elaborate such a plan.

The easiest way to start is with the expenses for example during the first three years:

●        HR cost (starters and co-workers).

●        Production costs (purchase of material, machines, software, ... ).

●        Marketing costs.

●        Sales costs.

●        Travelling costs.

●        Office rent.

●        Expenses related to the establishment of the company (notary,... ).

●        Administration: accountancy, bookkeeping.

●        Miscellany: telephone, electricity, car expenses, insurance.

●        Monthly lease costs.

●        Patent costs.

On the other hand, you have the income:

●        The capital you already raised and hope to raise in the future.

●        Future sales.

●        Any income from grants.

●        Loans.

You can now compare expenses with the income and visualise the cash flow movement: you immediately will know how much cash is coming or going out. If you add up your expenses and income every month then you will know what is your company's "burn rate". This indicates how quickly your company consumes its capital. If you are out of money then you have to start making a profit, raise additional capital or sell the company. If your financial plan is realistic, you will immediately know when additional money is needed or if you will be profitable before your capital will be finished.

It is important that you do this yourself and that you are honest with yourself. It does not help to lie to you. For that matter any self-respecting investor will see through your exaggerated optimism.

“You need to know exactly when money comes in and when bills are due, whether it's monthly salaries or quarterly expenses. No one really tells you this, but when you hire several people, those big social security bills can hit you months later - sometimes even nine months down the line. From the start, keep a detailed cash flow plan and balance your costs. There's no need for fancy accounting software at the beginning; Excel works just fine unless you're dealing with hundreds of invoices a month. Keep it simple." Leen Peeters — founder and manager of Think-E

If you like, you can reproduce your financial plan in graphics. It makes for an easier read... For a starting business, cash flow is the most important thing. Period!

Without money in your account, your hands are tied. That is why there is some truth to the saying that "Cash is King". Make a breakdown by quarter for the first year. You will discover that cash flow can vary substantially from quarter to quarter. So always keep an eye on it!

This also explains why a good planning schedule is so vital. Every delay or acceleration in the sales process becomes very visible. It pays off to ask your customers for payments in advance and/or to obtain longer payment terms from your dealers.

You will have reached the point of break-even if you have no gain or loss.

What is a balancing sheet?

A balance sheet is a snapshot of the assets and the way they have been paid for. The accounting value of your company shares is the difference between assets and debts: your equity.

There are two columns in a balance sheet:

• ·on the left side, the debit side, you will see the assets. This column includes money and merchandise (things you have purchased). There is a distinction between a company's fixed and floating assets.

  • Fixed assets are assets for a period longer than one year; buildings, production machines, computers, cars... All are indispensable for the running of a company. Besides these tangible assets there are also intangible assets such as patents and mandates, which are valid for several years.

  • Floating assets are converted into cash within a year: stocks, contracts in progress or receivables {for ex. Invoices sent to customers).

• on the right side, the credit side, are the liabilities. This is your own capital (issued and fully paid up capital, subsidies) and debts in the short or long term (shorter or longer than one year); these debts can be short-term debts (invoices you have to pay to your suppliers yourself or long-term debts in the form of loans.

  
  

 A balance sheet is always balanced. The total assets are equal to the total liabilities. It is represented as follows:

Assets	Liabilities
Fixed assets ·     Intangible fixed assets ·     Tangible fixed assets	Equity ·     Capital ·     Subsidies
Floating assets ·     Stocks ·     Cash Receivables	Debt ·     Within +1 year ·     Within -1 year

What is a profit and loss account?

Another important part of the annual accounts is the profit and loss account. The profit and loss account gives an overview of the operation of a business during one financial year. A profit has been made if the balance between the earnings and the expenditure is positive and a loss if there is a negative balance.

In the profit and loss account you have to include the depreciations of in­ vestments and stocks of the company. Depreciation is done when you have bought merchandise, which you need to run your business and which will be used several years in a row. The purchase cost is then spread over five years for example. In your cash flow planning this is registered as an expense at one particular moment. In your profit and loss account this purchase will feature in several sections.

A few more ratios

The solvency of a company is a ratio that represents the relation between equity and debt. It reflects whether a company is able to pay its debts.

Liquidity reflects to which extent a company is capable of fulfilling its obligations that are immediately due. That means you can pay current liabilities without taking out additional loans.

The return on investment (ROI)  reflects the relation between profitability and investment. If the company incurs a loss then the ROI is a negative number. It shows how profitable the investment is.

ROI = (income from investment - investment cost) / investment cost

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