However, despite funding, they failed. A startup founder was recently arrested over pending dues. There are lessons here for aspiring entrepreneurs.
How can they ensure their startups succeed? The key lies in making their ventures financially viable over the long-term. We spoke to experts and here is what they had to say.
Get the figures right
“The failure to understand unit economics is one of the major reasons why startups fail despite funding,” says Srikant Parthasarathy, Managing Partner, Chakra Venture Partners, a start-up accelerator and venture capital firm.
Unit economics simply means you cannot sell a product for less than the cost of procuring it. “Money needs to be made at the unit economics level if the business has to turn cash positive,” says Bhaskar Majumdar, Managing Partner, Unicorn India Ventures, an earlystage venture fund.
“A company can turn around a net loss into a net profit, but it will find it more difficult to turn a gross loss into a net profit.” Rohit Chokhani Principal founder, White Unicorn Ventures
You have to get it right by first forecasting all the direct and indirect expenses, and then breaking them down to a unit level to arrive at the right figure. Unit economics must be positive for a business to sustain. If it is negative, it needs immediate attention. “A company can turn around a net loss to a net profit, but will find it more difficult to turn a gross loss into a net profit,” says Rohit Chokhani, Principal Founder, White Unicorn Ventures, a seed and early-stage support for start-ups. Pricing is key. You cannot lower prices of your products in anticipation that customers would buy or buy more.
Hang on to cash
Too many undetected cracks in a new venture can make cash disappear fast. “The majority of startups fail because they run out of cash,” says Siddhartha Chandurkar, Founder & CEO, ShepHertz Technologies, an omni- channel enterprise platform for digitisation. You need to lower cash burn or the rate at which a startup spends money.
For instance, if your company has a capital ofRs 12 lakh and spends Rs 1 lakh a month, it will face a negative cash flow in 12 months. To survive, a startup must not rely on external investments. Unfortunately, funding for startups is treated as “free money” rather than a “liability”, and this in turn, leads to a spending bias. “Funding should be equated with long-term value creation, which typically is not the case with most startups,” says Parthasarathy.
To lower your cash burn, spend diligently. Spending too much or too little can both be harmful. “Spending may be necessary to capture the market, which can result in cash loss. But we need to see the lowering of cash burn with growth so that we can see a path to profitability,” says Majumdar. “Blowing up too much money on things like marketing at an early stage can quickly put the company in a downward spiral,” says Paula Mariwala, Founder & Co-President, Stanford Angels & Entrepreneurs India.
So keep a close watch on your spending and cash flows. Make it a part of your weekly reviews to stay sustainable in the long run. Also, make everybody in the company sensitive to expenditure and encourage them to save wherever possible. Remember, raising capital is a time-consuming process and having a cash-flow positive model is an important validation of a sound, viable business.
Think of sales
The focus should be on sales from day one. “Even during product design, you should be thinking about how you are going to sell the product,” says Sandeep Mathur, Managing Director, LyncBiz Corporation, a specialized global sales management consulting firm.
Identify prospective customers and start talking to them right away. Get feedback about the product/offering and pricing. Start optimising your sales cycle. The sales should be predictable. If the numbers are not growing, you need to go back to the drawing board. The percentage of gross margin on sales is the next important thing. “If the margin is very small, then it’s a big cause of concern because revenues can’t grow very fast and how will the venture ever make a profit,” says serial entrepreneur Alok Kejriwal, CEO and Co-Founder, Games2win, an online games business firm.
You must understand the entire profit and loss statement to succeed in the long run. “Most new entrepreneurs have very poor financial literacy. They don’t understand cash flows, financial statements and the difference between revenue and profits,” says angel investor Aniruddha Malpani of Malpani Ventures, a firm that provides seed funding to innovative ideas.
The startup founder must understand each row of the profit and loss statement, along with various costs such as technology, marketing, general and administration, etc. “These costs should have a percentage calculated on the sales so that founders can understand what these expenses are and if they are in line with good companies which are listed,” says Kejriwal. For instance, if a startup does sales of Rs 1 crore and the salary cost is Rs 85 lakh, there is cause for alarm. No one pays 85% of sales on salary.
Projections and assumptions
Many startups base their projections and assumptions on a top-down approach. The thinking pattern is: “The market is so big that even if I capture 1% of it , mine will be a multi- million-dollar company.” Such broad projections often lead to unrealistic forecasts. “We want to remind entrepreneurs that expenses are a reality and revenues only a hope. Plan with real expenses and pragmatic revenues,” says Mariwala.
Faulty projections also lead to unplanned cash deficit. “A lot of people just make weird Excel sheets, which don’t mean anything and then those sheets become the reason companies go bankrupt,” says Kejriwal. According to him, assumptions can be wild. But the ratios in the assumptions should make sense. It’s best to take a bottom-up approach. One has to be ready to experiment and fail in order to learn.
“We want to remind entrepreneurs that expenses are a reality and revenues only a hope. Plan with real expenses and pragmatic revenues.” Paula Mariwala Founder & Co-President, Stanford Angels & Entrepreneurs India
Account for salary
When startups first come about, bootstrapped founders tend to forgo salaries. This however, does more harm than good. “If they are not taking salaries, they should at least be putting a book entry of 70% of their market salary to record the real cost,” says Kejriwal. He adds that he has come across several entrepreneurs who started up around 8 years ago and still don’t draw salaries.
Now, if for some reason the same founders have to leave the company or their venture is acquired, then someone of their calibre will be required to run that company. If the replacement’s salary cannot be borne by the company from its earnings, it diminishes the value of the firm.
Don’t over hire
Hiring the right team at the right cost is crucial. “It is very easy to hire expensive people, but it’s very difficult to make those expensive people make money for you,” says Kejriwal. For instance, if you hire a veteran from a leading tech company at a salary of Rs 1.5 crore, when he was drawing Rs 1 crore in his previous job, it doesn’t mean he will generate same revenues for you as he did at his previous job.
This is because the set up at an established company is different from that of a startup. Also, you should never over-hire in anticipation that business will grow and each person will have roles to play. “Case-to-case basis hiring works best in a startup stage,” says Majumdar.
Revenue model
Free model has become the norm for startups, and not much thought is be given to a real revenue model. To acquire customers, you may have to spend more cash, but the business must be backed by a strong revenue model. It is important to measure the lifetime value of a customer and focus on organic users. “If the experiment or project is not even contributing 1% to the revenue, it’s best to shut it down and move on,” says Dinesh Agarwal, Founder and CEO, IndiaMART. com, an online marketplace.
To sum up, do not just focus on latest technology or ideas. Finances are equally important for long-term stability and viability of a startup. Those who focus only on the product without thinking about the finances, often end up with unexpected holes in the business model and the balance sheets.
Source: The Economic Times