How to Finance your Business &
Financial Projection Development
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Winners versus Losers
The Founders Dilemma
Thinking Correctly
Building the Plan
Technical Necessities
Building Assumptions for Financial
Projections
• Valuation Analysis & Methodologies
Winners versus Losers - #1
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Clear Mission
Large, accessible market
Unfair advantage
Superior Management Team
No warts
Razor sharp operating methodology
Path to profitability
A plan that makes sense
W versus L - Preparation - #2
• Don’t overvalue yourself
• Clean up your do-do!
• Understand what a “proof of concept” is
• Get quality legal/accounting advice
• Find partners with money
• Don’t sell your opportunity to soon – Stale Bread is
harder to eat.
W versus L - Have you done your
Research? - #3
– Identify the amount / stages of funding to profitability
– Identify who your customers will be / when
– Identify who your competitors and complements are
– Identify who your investors should be at a given stage
– Identify potential Board Members with a money path
– Identify the “real” amount of money you need – 2 years
– Identify, understand and finalize the IP
W versus L - Do you understand the fund
raising process? - #4
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Is it a quality Executive Summary and Plan?
Is their a date to close the Round?
Has a valuation been set – Why 10x or 20x?
Are the financial proformas within Bounds? 60/20% rule
Who else is being asked to invest?
How much are the Board and Advisors committing?
Who is your first stop and the last?
How much money do you really need versus asking for?
Why? Underfunding because you can get it?
W versus L - Asking for Money - #5
Don’t apologize for asking
Actually ask for the money
Answer objections with real facts or don’t know
Do you believe in your idea?
Discuss creating value that generates returns – When?
Don’t oversell?
Discuss current problems and concerns?
The Founder’s Dilemma #1
• Most surrender management control – 3
years/50%, <20% are in control at sale
• 4 out of 5 founders forced down or out – a
major cause of business failure
• Founders usually make the same as if
employed and less accounting for risk
• Do you want to be rich or king? Why did I
start the company?
The Founder’s Dilemma #2
• 51% make the same or less than employees
• Boards job includes replacement whether the CEO
does or doesn’t do the initial job
• The faster Founders needs/capital the quicker they
loose management control
• Investors have greatest influence just before they
invest
• Founders who give up more equity sooner build
value quicker – but they have less control
The Founder’s Dilemma #3
• Initially Founder/CEOs want wealth and power – Then
they find out which is most important – Learning this
makes it easier to make decisions
• VCs use the founder - money vs. control paradigm to
determine whether they should invest
• Board members need to understand this paradigm before
they take the job
• Founders must decide on the rules, the stakes and when to
quit. Are they a failure if they lose control?
The Founder’s Dilemma #4
• Keeping Founders around –37% of Founder
CEOs leave when replaced, 23% take a
demotion – 40% become Chairman, 50%
remain on the Board
• Serial Founders remain CEO for much
longer periods in subsequent businesses.
Thinking Correctly -#1
• Many think they know their customer/market…
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Market validation from friends
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Ready, fire, aim approach to products
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Consumes capital at a furious pace
• The best Entrepreneurs seek market validation
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Right product, features and markets sooner
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Natural alpha, beta and first customers emerge
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Recruits savvy employees
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Raises smart capital
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Optimizes company’s capitalization
Thinking Correctly - #2
• Think you have to ship a killer product…
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‘Boiling the ocean’ feature sets
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Delays time to market, and the market always is moving
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Uses large amounts of capital
• Real entrepreneurs build it, buy it, partner for it
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Prioritized market feedback from validation
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Get to market faster and with less capital
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Go after partners like you go after customers
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Ship ‘minimal functionality’ products / upsell
Thinking Correctly - #3
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Think you must raise a lot of capital quickly…
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Lots of capital before any value is created
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Not jealous of dilution
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Has a spend mentality
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Output versus execution orientation
Good entrepreneurs focus on value inflection points
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Validate markets and business models
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Customer traction
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Bring on key executives and advisors
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Raise enough capital to get through the next set of value inflection points
Thinking Correctly - #4
• Some of you think good ideas are scarce…
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Ideas are commodities
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Get to market first fallacy
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No competition fallacy
• Characteristics of a solid concept
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New approach to an existing business process
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Real, existing corollaries today
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Solution today has market potential of $ 1 billion
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Multiple adjacent markets just as large
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Start up team with execution skills in the space
Thinking Correctly - #5
• Think you can use partners to sell their wonderful product
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Many technology focused companies rely on others to ‘go to
market’
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Companies forget sales as a form of ongoing market validation –
Product is that good.
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Think Partners work throughout a life-cycle instead of only after
a strong market position has been established.
• How do early stage companies really sell? Market segmentation?
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Three basic sales models for early stage companies; direct,
telesales and OEM
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Proven economic model that has reasonable customer acquisition
costs
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Understand your sales cycle, sales model and who in the
organization is in the decision chain
Building the Plan - #1
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Is the plan a “well crafted novel” that is consistent – Look for
inconsistency (time/costs/milestones/people)?
Is Who/What/Where/When/How & Why quickly defined?
Have you determined whether you are a product or services
based business – Catalysts?
General Metrics – Products: GM 55-65% EBITDA --20%+
- Services: GM 32-40% EBITDA – 14%+
What is the unfair advantage – Why can “you do this”?
How has the plan evolved since inception or not?
Building the Plan - #2
• Names and logo’s can be costly – “with whose
money”
• Early Advertising and press releases – “with
whose money”
• Referrals: Who gets the plan/how versus the Exec
Summary – Who are they?
• Having Non-competes/confidentiality? Why or
why not? Proprietary material?
Building the Plan - #3
• Are you baffeling the potential investors with technical
B___ S____! – or explaining why it’s a good idea?
• Do you discuss IP protection and potential
problems/costs/service providers?
• Do you discuss the product(s) evolution and
timing/contingencies (no one trick ponys)?
• Do you discuss “Blue Sky” ? – How do we get there????
• Do you discuss related technology and markets and then
differentiate?
Technical Necessities - Markets - #1
• Technical market knowledge is very important within the team?
• Has the market segmentation analysis been completed despite it being
very difficult and expensive to prepare?
• Definition of typical sales channels?
• Definition of needed sales and marketing support costs?
• Research of “others” unfair advantage?
• Pricing guides and strategy??
• Competitors (who and what to steal)?
• Compliments – who might cooperatively help you buy and sell?
• Determination of component product costs, production timing?
• Market entry strategy and time to market?
• Potential leverage and value propositions (beyond your “good” idea)?
• OEMs and resellers – comp. and revenue models / manage-costs?
Technical Necessities - Organization - #2
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Does everybody have a title? Top heavy? Why? Reason for a title?
What will the org look like in the future? Why? When? Contingencies?
When will you reach the limits of you or your teams expertise?
Do they invent roles for partners that can’t contribute?
Are all roles and timing are directly tied to the financial model?
Do they add or expect to add roles before they need them?
Do they set compensation expectations for staff before or after financing?
Are their outsourcing plans realistic and cost effective? When?
Do they understand the cost of managing resellers (time and money)?
Do they understand that OEMs need management (time and money)?
Do they have an HR VP, Manu VP, Marketing VP or CFO now? Why?
Do they have the beginnings of a corporate culture and critical success factors?
Do they understand the proper ways to motivate staff without money being the
end all?
Technical Necessities – Finance Model #3
• Can you demonstrate financial knowledge and acumen?
• Do you talk about anticipated return (ever)?
• Realistic milestones and value creation w/ interdependencies / cash
requirements when– problems and upside (pictures)
• Basis of the financial model – the income statement (example)
• Facilities, compensation and management agreements disclosure
• Cash requirement timelines (cash-flow statement)
• Cap Table and investment history of existing investors (example)
• Term sheets with expectations - pros and cons (example components)
• Normal financial metrics (per above)
• Understanding utilization and overhead (metrics) - billing
• Bank financing expectations - yea right
Technical Necessities – the Investor - #4
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What are the investors bringing to the table?
Money (now) – Evaluate the investors negotiating leverage – lots or a little?
Money later and the ability to syndicate other investors into the deal based on
milestones – can these investors support you or throw rocks? Ask them?
Strong industry knowledge and expertise to help refine the plan?
Support in the hiring of the best and brightest into the company?
Support in monitoring the business/industry?
Do they listen when the CEO talks or asks the investor to help?
Investors prior history of building successful companies and teams?
Knowledge of compliments and competitors and their operating models?
Someone with whom you can develop mutual respect with and work with
during difficult periods.
Building Assumptions for
Financial Projections
Model yourself after others
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Product Development and Scaling
Organizational Development/When
Market Segmentation Analysis
Financial Plan Analysis w/ revenue
model types
Product Development and
Scaling
Technical costing from proforma example
• Ongoing Design and Development – Product
Evolution
• Facilities & Outsourcing
• Inventory for build w/ time
• Logistics – Shipping – Packaging
• Inventory for sale w/time
• New product introductions / additions
• Scaling/Planning for growth
• Inputs to the revenue model
Organizational Analysis / When
Organization Chart
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Where are you at today / Promises
Compensation Standards & Planning
Hiring timeline by position w/contingencies
Quarterly Staffing Reviews
Chiefs versus too many indians
True Cost of an employee – 1.44 x salary / 1860
hours = rate per hour –
• Inputs to the revenue model
Market Segmentation Analysis
• Model Company – Beg, Borrow & steal
• Compliments & Channel Development
• Competitors
1. How much they charge
2. Revenue Streams they have –subscription,
maintenance & support, per use, per seat, one
time/upsell, etc.
3. Staff size validation
4. Brand Strategy/cost
5. Marketing / Cost of Customer Acquisition
Financial Analysis &
Rationalizing Use of Proceeds
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Revenue Model – Why/When
P & L Pro-forma
Cash Flow Forecast
Inventory
Balance Sheet
Due Diligence Examples
Analysis & Information
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Revenue Contracts Analysis
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Company Capitalization Analysis
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Partnership Contracts Analysis
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Legal Analysis
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Salary / Benefits Analysis
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Administrative Evaluation
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Technical Evaluation
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Industry / Competitive Analysis
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Organizational Analysis
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Strategic Analysis
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Financial Analysis
Valuation Analysis & Methodologies
• Creating Value with Milestones
• Value Dynamics
• Top 10 value assets
• Valuation Methodologies
• Strategic Analysis
• Financial Analysis
Create Value by Achieving
Milestones
Angel
VC
VC
Mezzanine IPO
1,000
Low
Investment Risk
$20MM+
$10MM+
IPO
Full
Commercialization
Prove Mgt
Execution
$500K+ Customers Profitable
Deals
Start Scaling
Proof
of
$50K+
Revenue
Concept (-) Profit
High Idea
80-120
60-100
40-80
25-35
>120
%ROI
100
$5MM+
10
1
8-11
Valuation ($MM)
Seed
Traditional Financial Reporting
Framework
Balance Sheet
Income Statement
Assets
Revenues
Receipts
Cash Flow
Disbursements
Liabilities
net equity
Expenses
net profit
Value Dynamics
Detailed Framework
Physical
Land
Building
Equipment
Inventory
Organization
Leadership Innovation
Strategy
Knowledge
Structure
Systems
Culture
Processes
IP*
Brand
Financial
Cash
Receivables
Debt
Investments & Equity
Customer
Customers
Channels
Affiliates
Employee
& Supplier
Employees
Suppliers
Partners
*Intellectual Property
Top Ten List of
Value Assets
10. Patent and new product
development
9. Ratios (ROA, ROE, P/E)
8. Image of company amongst its
shareholders
7. Market share
6. Brand Recognition
Top Ten List (con’t)
5. Technology investment
4. Profit margin
3. Revenue Growth
2. Employee retention
1. CUSTOMER SATISFACTION!
TYPICAL METHODOLGIES
Determining value by comparing
multiple methods.
Market comparables
Discounted cash flow analysis
Hurdle (Venture Capital) Approach
MMM Method of
Business Valuation
Make Me a Millionaire
“Determines the asking price of a business by
multiplying the number of owners by $1.0 million.”
- Bryan Jamison, SMU BBA ’78 Wall Street Journal
(circa 1985)
Private Market Comparables
Definition: Compare to recent private transactions
of comparable companies.
Advantages: Provides insight into to current market
pricing for similar size and stage deals
Disadvantages: Comparability still suspect, Results of
analysis must be discounted for Company Stage,
Management, timing (seasonal down turns), a
multitude of obvious differences.
Sources: Venture One, Venture Economics, Press
Releases of Entrepreneurial Community
Selecting Comparable
Companies/Transactions
Lines of business
•Size
•Geography and diversification
•Financial condition
•Cyclically comparable
•Other risk characteristics
Comparables
Strengths
Quick to use
Weaknesses
Never really
comparable
Simple to understand Adjustments often
greater than similarity
Commonly used
Only compare to the
best
Market based
Not in “market”
It is “private”.
Net Present Value of
Future Cash Flows
Definition: Present value in dollars of
the future cash receipts at a selected
hurdle rate less the investment made.
Source: Company financial projections
compared against reality.
Net Present Value
Strengths
Weaknesses
Theoretically sound Cash flows difficult
to estimate
Based on CASH
Comparables for
discounts difficult
Easily calculated
WACC assumes
constant structure
Common usage
WACC assumes
effective tax rate
Venture Capital
Hurdle rate method
Definition: Determine an exit value
at some point in time required to
achieve a predetermined rate of
return.
Source: Company financial projections
compared against reality.
Venture Capital Method
Strengths
Simple to
understand
Weaknesses
Relies on exit
value (IPO
mentality)
Quick and easy to Complex capital
use
structures negate
ease of use
Commonly used
Large discounts
oversimplify
Other Problem Areas
•Any methodology that requires use of
factors (variables in formulas) that you
can’t get!
•Academic exercises that give you
answers you know aren’t right!
•Endless mathematical models that
take your focus away from analyzing
the company
References and Research
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Harvard Business Review
Kellogg School of Management
Hal Johnson/Diane Miller
National Association of Corporate Directors
Phil Jenkins – Bryn Mawr Associates
John Carver
Noam Wasserman