Kirsty Nathoo - Managing Startup Finances

morning everybody thank you for coming in at 9 o'clock it's an early start so as Kevin mentioned my name is Kirsty Nathu and I'm the CFO here at Y Combinator so I've actually helped now 2,000 companies almost as they've come through Y Combinator so seen a lot seen a lot of successes and seen a lot of failures so I'm going to help you just understand some of the big mistakes that we see some of these companies doing based on their cash based on their money and so for every business whether it's a start-up or a mom-and-pop shop cash is its lifeblood and if you run out of cash then the business dies there's doesn't really no going back at that point and it's actually surprisingly easy to run out of cash and we see many startups not realize that they they have done that until it's too late to actually be able to turn it around and do something about it so we're going to talk about these three early-stage pitfalls so this is probably most relevant to you right now and then we'll talk through another three that as you start to raise money and are starting to think about hiring some other other mistakes that companies make so we're going to look at what the numbers you should be looking at how often you should be looking at them whether your expenses are realistic and then thinking a little bit more about hiring and looking at responsibilities alright so let's move on to the first one um so the first mistake is really not knowing what numbers to look at to make sure that the health of your company is is good and really there are three things that you should know your bank balance the money coming in and the money going out and these are not difficult you don't need anything fancy to be able to do this this is all information you can get from your online banking or your bank statements you don't need bookkeepers you don't need financial software this is super straightforward but you would be amazed at how many companies don't look at this and then using these three numbers you can then calculate some other things you can look at burn you can look at your runway you can look at growth rate and you can figure out whether the company default alive okay let's go through these in order your burn is purely money in - money out again you can get this from your bank statements it's effectively just the change in bank balance between two dates here's an example super easy you have 25 K expenses you have 10 K of revenue so your burn is 15 K if your expenses are a little bit lumpy some companies you know you might have a one-off month where where you I don't know paid a legal bill or something that's super high you can do this you can look to average expenses as well to figure out your burn and that's often referred to as average burn so you might look at this over three months to kind of get it get more of an idea so then once you know your burn then you can start to look at what your runway is and what this means is how long do you have until you run out of money and the way that you calculate that is you look at your existing bank balance divide it by your average burn and that gives you a number of months so here we have 150 K in the bank we've just calculated our burn rate to be 15 K and so we have 10 months of runway again super straightforward but you'd be amazed at how many companies or how many founders don't know these numbers for their company and just a point here that again the burn might change over time but this is a number for you this is not a number to try to make things look good this is for you to not lie to yourself so looking at the burn and going well this month it was 15 K but let's just pretend it was 10 K so then that makes it look like that we have 15 months of runway left all you're doing is lying to yourself you're still going to run out of money on the same day it's just making you feel better right now so it's super important to really be honest with yourself on these you can also look at your growth rate and so this is just looking at two periods of time so your money in a month to minus you money in in month one divided by your money in a month one so this is looking at the the rate that your revenue is increasing so in our example here we have 10k of revenue in July 12 K in August and so our growth rate is 20 percent and just a note for the for the people that weren't the the math whiz was as at school a constant growth rate is what's going to give you the J curve in growth of revenue because if you have 20% growing each month as your numbers increase each month that 20% caesar is a larger number okay and then the final one is whether the company is default alive or the other the other side of it is is it default dead so the way you calculate this is if your expenses are constant and your revenue growth that you've just calculated continues have you got enough cash to reach profitability and there's a handy little calculator that Trevor Blackwell who's one of the founders of Y Combinator created for you to do this and basically there are three things that you can you can play with so you can look at your monthly expenses which is the red line you can look at your monthly revenue starting point which is the green point over at the start and then you can change the gradient of that line to be your growth rate and it will calculate where you become profitable and how much capital is needed now this example isn't the same numbers as the ones that we've just been working through so in this example this is assuming that you will need 150 K of money to get to profitability and it will take you two years and so those are really key things to know because if you only have 100 K of money in your bank account you know that you've got a problem and you know that you either need to find a way to increase your revenue growth or you need to find a way to cut expenses because the whole goal here is to be at the point where you can find a path to profitability because it gives you freedom being profitable gives you freedom because you aren't in a position to need to raise money and kind of like dating if you don't need to raise money you appear less desperate so your the investors want to give you money more so it's easier to raise money so it's actually really important to have that option it can sometimes you know it can be it can be a switch as well you don't have to necessarily be profitable right now but if you know that you could turn off one specific expense or do one specific thing and be profitable then that's also a great safety net there's also a really great essay that talks about this in more detail this was written by Paul Graham and you can see the the link here to where that that gives you more information on this and again is the kind of thing that when we're doing office hours with founders it's one of the first questions we ask and you'd be amazed how many people don't know the answer these numbers super easy to calculate super straightforward the next problem is that people go along and they say ok I've looked at my runway I've looked at my revenue I know all my numbers and then kind of forget about it but actually this needs to happen pretty often you shouldn't be looking at it every quarter or every month you should be looking at it at least every week and if your runway is getting low or things are looking not very constant consistent you should be looking at it very often like sometimes daily and whenever anyone asks you should know your numbers have a have a think now how many of you know how much money is in the company bank account if you already have one great how much have you know your runway slightly less number slightly less hands but that's that's pretty good I like it I'm impressed okay the next one is under representing your expenses so if you think back to that default alive' calculator that assumes that your expenses are going to remain constant and actually in reality that's probably unlikely most startups their expenses will ramp up over time and you should you should understand how that's going to happen you know what kind of expenses are going to increase and what are they going to increase to so some examples of expenses that may change over time is the first one is undervaluing your own time particularly in the early days where you're doing everything and you're either paying yourself minimum wage or some very small amount which by the way in California or everybody should pay themselves minimum wage and you're also doing things that don't scale in order to acquire users and that's totally fine and that's what we recommend that people do but it can make your customer acquisition costs look lower than really they are and so you should be aware that over time as you start to hire people to look into these that those expenses are going to go up hiring people is not just their salary for every person that you hire you need to provide them with equipment you need probably desk space you need health insurance probably depending on where you're based and so all of these things cost extra money on top of the salary and so depending on location a good rule of thumb is that an employee will cost about 25 to 50 percent more than just their salary so if they're being paid 100k year then your fully loaded cost to the company is going to be somewhere between 125 K 250 K and again that's super easy to forget about you think oh I'm going to hire an engineer I'm gonna pay the 100 K that means you know that's all it's going to cost but it's it's amazing how those numbers do add up so just be aware of those finally assuming paid acquisition costs remain constant is another another mistake that we see people make a lot whilst it may not seem like this often times in the early days it's actually easiest to find your early users because they're the ones that are totally motivated to use the product and actually over time it gets harder to find and convert users and so the cost of doing that goes up and so again you know you should be thinking about that you should be looking at what your costs are right now and seeing thinking are they reasonable what do we think they might go up to because if you can look at things in the worst case scenario and you have you know in the worst case scenario you callate that you have eight months of revenue eight months of runway left but actually then things are better than that and you end up with ten months of revenue then that's bonus right you've got you've got a bit longer to figure things out runway is not a vanity metric it's not one of these things that's supposed to make you feel good is not one of the things that's supposed to be used to compare yourself against other companies is for you to know the health of your company and so don't ignore this stuff don't lie to yourself don't you know try to massage these numbers to feel like it's making yourselves better because all that's gonna happen is you're running out of money and it'll become a shock all right so these ones now are starting to get a little bit more as you raise money as you starting to hire people so it's good to bear in mind right now but these are probably less relevant to a lot of you for now okay the first one is outsourcing responsibility and often the CEO will hire a bookkeeper and to prepare the finances for a company as they start to get a little bit more complex and that's a total normal thing to do we recommend that people do that it's usually once people raise some money it's not a good time it's not a good use of the CEOs time to be doing the books and the CEO can be doing much more high leverage things but the things about in mind is that even though the bookkeeper is doing the books and preparing those numbers the responsibility is still everybody's in the company particularly the CEO but all the founders everybody should know what these numbers are an external bookkeeper isn't going to know the business like you know the business you know oftentimes they will the way that they they work is that they will get hold of bank statements and they'll see money coming in and they'll see money coming out and they'll do their best guess about what these things are and they won't always be right and you can't really expect them to always be a hundred percent right because they're looking at it from a very removed position and so it's up to the founders and it's up to the team to look at those reports that the bookkeepers send every month and to make sure that you understand them and to make sure that if anything that comes through that looks strange you question it's not necessarily think I think a lot of it is that people are concerned that asking questions will make it look like they don't understand their numbers but usually what happens is if you don't understand what these numbers are looking like it's usually because there's there's been some misunderstanding in the reporting of the numbers and so if you're like well I thought my revenue was going to be a bit higher this month for what's going on why is why is this you know why is this this number then you can actually go in and look and query what's what's going into that and you know you might find that there has been a mistake made and this is this is probably one of the number one things that I get founders coming to me complaining about they'll come up to me in this total panic and be like the bookkeeper messed up and they told us all this wrong stuff and now I don't know I have no runway and I don't know what's going on and actually what happened is the bookkeeper sent them the monthly reports they were like tick done my work founders didn't look at them the report didn't figure out what was going on and now there isn't enough time left for them to turn the business round either to get profitable or to raise money to figure things out and the company dies because it runs out of cash so super super important to be on this all the time hiring too quickly and scaling the company too quickly is it's really easy to do to hire too quickly because you're under a lot of pressure to to hire people it feels like it's a it's a really easy really measurable piece of information you know you talk to founders and one of the first questions that they will often ask is also how many employees are you at right now and you say alright you know I'm at 25 and you're thinking oh no I've only got 10 employees that means that you know way more successful than I am and actually that's totally not true so we already mentioned that hiring employees cost more than just their salary but you should also be conscious that every hire is actually an investment into the business and you should be making sure that you're getting a return on that investment and now for some types of employees that's super easy to measure so you know think about a salesperson they're not bringing in more sales than it's costing the business to hire them then clearly you're not getting a good return on investment but then think about a community manager or a you know as a support manager it is much harder to measure that and that's kind of one of the things that as a CEO you need to be looking at and you need to be figuring out to make sure that all the people in your company are actually working to make the company more valuable and sadly this is the point where you know if people aren't working out you should be prepared to fire fast you know if people aren't pulling their weights then they need to they need to leave the company and like I say it's easy to fall into this trap that the more people you have the better you doing but actually the best companies do more with less and so actually the real way that you should measure yourselves is what's my ratio of revenue to employees because the higher that is the better you doing you're doing more with less and that's the path to being profitable from an early stage which then takes the pressure off to the the worry about whether the company is going to continue and it's also easy to feel like you have to kind of compete with with all the flashy startups that have raised bunches of money and they're all hiring data scientists right now and you know oh that means I must need a data scientist so I'd better hire a data scientist actually don't you know that the again the best companies do more with less and if you can if you can build a really great company with less employees then that's amazing for everybody involved and bear in mind you know you should be treating this money carefully it's not a case of just oh I need to hire this person I need to hire that person because what the investors who are giving you this money for they're asking you to do something basically a miracle they're asking you to take their money and turn it into ten or a hundred times that amount of money to give back to them and the way you're going to do that is by being careful with your expenses and making sure that your revenue grows as a follow-on to that scaling before you get product market fit is also another dangerous thing that people fall into quite easily at the point where he's still figuring out what your product is and you're trying to find product market fit you should be spending as little as possible and then that will give you the runway to have time to figure out what it is that you you should be building and then you know people will be beating down the door to buy your product more employees will not help you get to product market fit it will not help you get there faster it will not help you get there more efficiently and one of the conversations that I have with founders is something along the lines of oh my sales are low because I don't really have enough sales people so if I hire another couple of salespeople they're marseilles will obviously increase that doesn't sound like product market fit to me you know if it if you have that then customers are beating a path to your door and you know it it feels like the wheels are trying to wheels are falling off as you're trying to look after all those customers so just hiring more salespeople isn't necessarily going to be the thing that sets that going also convincing yourself that you need more developers or you need more people to to get the thing that gives you the the product market fit another conversation along this is something like I need for more developers because then I can build feature x y&z and then obviously everybody will buy it but again if you have product market fit then even your junk ev0 that doesn't have all of these fancy things is solving a big enough problem for everybody that they're willing to pay for it and they love you for it anyway and then you can start building up on the more features and then you can start hiring to do that this is this is the one that there's no coming back from the other ones if you make these mistakes you can you can probably solve this Sonique and you know if you hide too quickly you can figure that out if you don't know your I spent I don't know your numbers you can learn your numbers this is the one that is you know no going back so if you let your runway get too low before raising you're going to have problems raising your money so the first thing is you should always assume that you will never raise any more money always assume that the previous money that you raise will be your last and that you should be aiming to get to profitability on that money so again the conversations that I have with founders where they say oh it's fine my investors are gonna put in another million dollars it'll be totally fine that's kind of scary if you're relying on your investors to do that because they don't always sometimes they might but they don't always so Steve's stage money is the money that you'll raise off and on just an idea you know you'll be able to talk to investors about a an idea for a product you've got a hypothesis that you you want to be able to check and they will give you some money once you get to series a and beyond that becomes much much harder you know you need sustained growth you need to have more of an idea you need to have product market fit this is why it's a lot harder to raise money as you go through the life of the company and in particular don't leave it too late because if you're running out of runway your leverage goes down as you're trying to raise money so if you have six months of runway let's say and you think you're about to go and start raising money that's pretty scary it could take three months more to actually get an investor to agree to put money in and as your cash balances are decreasing over those three months you know you're losing leverage you can see from here that probably at six months you maybe you can just about pull it off but really you want to be thinking about 12 months runway that's the point where you're thinking okay maybe I need to think about whether I raise money or whether I'm thinking about getting to profitability and also if you get to six months and you're unsuccessful in raising money you really don't have a lot of time to turn this around to get to profitability for the company to succeed again there's a really great essay on our blog that goes into this in more detail linked down here so you can you can read that at your at your leisure and hopefully take that on board okay so in conclusion most companies die because they run out of money it's super easy not to run out of money just by looking at number of things knowing your cash balance in your runway understanding how your expenses are going to increase understanding that the ratio of revenue to employees is a better metric than just the number of employees and having a plan to get to profitability because you should assume you're not going to raise any more money all right thank you very much okay so a few minutes for questions so the question is how do you how do you balance the the two sides of you should do things on a shoestring and be profitable as early as possible versus you should just throw money and get market share as fast as possible I know I think it depends on the stage of the company as well you know in the early days then probably being careful with your money and making sure that you are you have a plan to get to profitability is a good thing just having a plan doesn't mean that you necessarily have to actually be doing it you know so so an example might be maybe you're plowing all of your revenues back into marketing in some description or rather and knowing that you could actually slow you you you know the way to the way to reduce your expenses is to reduce your marketing which might slow your revenue a little bit but it would conserve that cash to preserve the runway it's just it's a balancing act and you know I mean the other thing you have to bear in mind is that obviously the investors want you to spend money super fast they want you to come back to them cap in hand with you know please please give us more money so there is that there are some tensions there but it's all just being responsible with it and giving yourself enough time and enough runway to be able to to figure it out and I'm just curious at what stage do you see a four-on-four engulfed in that company do you start with the quiet exit CFO first then I can probably see a bow falls out okay so the question is when do you bring in a CFO it's surprisingly late actually even probably post series a you probably don't need a full-time CFO at that point and there's a lot of services that do you know consulting CFOs and and will do will do sort of strategy or you know help you to figure out your numbers to raise to create a deck or whatever for raising money a full-time CFO is actually pretty late on just to bear in mind that the difference between a CFO and a bookkeeper at least for the for the u.s. is that generally the way that this works is the bookkeeper you would you would have earlier and they're they're the people who are just going to get your your numbers that are coming through your bank statements into a balance sheet into an income statement into the accounting system so they're providing the reports for that and then separately to that you would hire a CPA an accountant who would prepare the tax returns and file those for you each year so there's actually two different sets of people so a bookkeeper you would need earlier a CPA you need annually to do your tax returns and then a CFO who's going to sort of oversee that and do more of the building our forecasts building out budgets and things like that are probably a little bit later on as well before that it's really the founders they should be doing it so so why can you have any calculate it I mean there are tools online personally I think it's actually better to build it yourself because I I think it makes you think about it in your mind and so usually just doing good old spreadsheets for me works well but certainly that there are other ways that you can you can do it and there's there's a lot of services and and a lot of startups we see a lot of startups applying to us trying to help to make it easier to see forecasts and things okay maybe one more question and then we'll move on you have a product market fit Oh for investors so are you raising seed stage money yeah okay so at the seed stage so the question is should you provide forecasts in your deck if you haven't reached a product market fit and the answer is probably no certainly the seed stage if you're talking to professional investors or experienced investors they probably aren't really going to look or ask you for that number they'll they'll ask you for things like so how could how big could this get and what's the total market size and you know questions like that but they're not going to be looking for here's our monthly growth predictions probably if you're being asked those kind of questions from investors and you're raising money at the seed stage it probably means that those investors and not actually that's experienced at investing in early-stage companies so that's a data point for you to decide whether it's it's a good person to to work with certainly by the time you get to series a however you should have you should have some plans but you know the point of a Series A is that you've got product market fit and that you know you know you have more of an idea I mean forecasts are always forecasts you don't know for sure but yeah okay I think we are up so thank you very much I'm doing an AMA on Friday so if there's questions didn't get to then feel free to drop them in there and I will answer as many as possible of those thank you [Applause] you

Channel: Y Combinator

Views: 99,456

Rating: 4.9604249 out of 5

Keywords: YC, Y Combinator, startup school

Id: LBC16jhiwak

Length: 29min 0sec (1740 seconds)

Published: Thu Aug 22 2019