I wanted to follow up a bit on my last article, in which I explain why even edgy and disruptive startups need an old-school budget. A lot of startups I’ve encountered seem to think of budgets as fundraising tools. That is, they draft it for potential investors, try to make it “interesting” (a.k.a. “there will be a unicorn at the end of this rainbow”) without seeming to consider whether what has been laid out is realistic or not. As for using the budget for actually managing the business and its resources? Sigh…not so much.
But, perhaps you can be convinced otherwise? Let’s try! I’ve included a PDF with a simple budget example that you should use as a guide for this article. See here.
Imagine a startup …
Two friends develop a great idea for a new app. Social media, gaming, ed-tech, productivity…it doesn’t matter. All that is important is that they are sure that it has the potential to go viral. After signing off on a Founders’ Agreement, they create a startup and draft a business plan. It looks something like the below.
- Create the app.
- Launch the app.
- App goes viral.
- An established company acquires app for lots of money.
- Early retirement!
Or, to be more specific….
- Develop the app using a third party developer (as neither of the founders is a developer). This will be a bare-bones, basic version. They are getting a discount as the work is being done by a friend of a friend.
- Perform usability testing.
- Launch the app. They will be able to get some free cloud storage to start out with though they know that, eventually, they will need to pay.
- Engage in a marketing campaign to support the launch.
- Simultaneously with the above, register their trademarks in their key target markets
And of course, and also simultaneously with all of the above, search for additional investment funding.
Resources on hand….
The founders have managed to acquire ₪ 130,000 in seed funding. In addition, over the course of the project, they take out a total of ₪ 67,000 in personal loans. Neither one is getting paid from this project (no money for that); they each need to have a day job in order to pay the bills. They manage the company from their homes, so they don’t have to spend money on office costs.
Not ideal. They start development in February, launch in July and they are out of money by mid-August. It looks like the below.
At this point, they can either:
- close down;
- pause all marketing and ongoing development, cover minimum operating costs out of their own pockets (possibly by going a bit further into debt), continue to look for funding and close down if they don’t find it; or
- try to buy a few more months of growth by going massively further into debt to cover the marketing and ongoing development costs. Here as well, they are continuing to look for funding. If they continue through year-end, that additional deficit will top ₪86,000.
And, I must add, as of right now, they already have ₪67,000 in debt for which they are personally responsible. Dave Ramsey would not approve! 🙁
So what happened?
A few things.
- They didn’t get the investment funding they hoped for in the timeline they hoped for and they didn’t have a backup plan.
- They went with a bare-bones app…and then found themselves stuck with significant additional development costs based on the usability testing and user reviews.
- They forgot to factor in ongoing app maintenance, development and other related costs (e.g. domain names or licenses for third-party IP utilized in their app).
- They didn’t anticipate how much the marketing was going to cost or how difficult it is to get an app noticed.
- They didn’t anticipate how much the legal was going to cost.
How could they have avoided this?
Engaging in a more thorough review of the costs and risks ahead of time and building a well-researched budget might have allowed them to design a plan with a bit more runway, and that in turn might have allowed them a few more months to build up a user base which would in turn pique the interest of an investor. This could include steps such as:
- finding cheaper alternatives for the initial development (e.g. India/ Eastern Europe);
- focusing on local fundraising options instead of blowing money on international travel;
- researching grant options and modifying the project so that it qualifies (e.g. add a focus on under-served populations); or even
- delay starting the project by 12 months, adopting strict budgets at home, picking up second jobs and just focus on piling up additional funds that can be used to beef up the initial funding on hand.
It’s not just apps!
I can almost imagine someone reading this and thinking “oh, but those are apps! I’m in _______ and __________ isn’t going to be an issue for us”. But that’s using too narrow an approach. Every industry has its financial Waterloo(s). Do anything even remotely medical and you are likely to find yourself dealing with round after round of testing and approval processes because X, Y or Z didn’t work out as planned. Organic cosmetics made from citrus fruits? Here as well, testing and approvals will be needed (not to mention consumer testing). How about developing new technologies for use in agriculture? Do you really expect to get that new piece of equipment designed perfectly on the first try?
And, of course, plenty of industries –everything from clothing to cosmetics to consumer technology to food products to new exercise routines— require marketing both as part of a launch and for ongoing build-up of market share. For many industries, you will need proven market appeal in order to generate interest on the part of potential acquirers.
Math is still math, even if you are really, really, cool and disruptive.