5 Easy Tips to Preparing Financial Projections

How projection mistakes can turn off investors

Q.  I am in the process of creating a startup company to launch a consumer product for women.  I've already filed a patent.  I would like to include investors in this wonderful opportunity however I have no idea what really matters on the financial forecasts to funders.  What do you think?

A.   During meetings with startup entrepreneurs, I'm routinely asked, actually grilled about, how much the numbers really count to investors and lenders.  Persistent entrepreneurs even ask me to tell them the "right" numbers slot into their projections.  I like their spunk!

Unfortunately the preparation of projections, like a business plan, is more about doing the task for someone else's benefit rather than their own.  When startup entrepreneurs miss-project the amount of cash needed to complete product development they end up in a costly, compromised position.  They need more money fast, yet the founders have lost credibility with funding sources.

Still these entrepreneurs are in good company.  In 25 years of reviewing financial projections for debt and equity raising purposes, here's what startup entrepreneurs tend to underestimate:  just about every administrative and marketing cost; the amount of cash needed to reach cash flow breakeven; the time it will take to sell first customers and collect invoices; and the time it will take to raise money from funding sources.

Here's what entrepreneurs tend to overestimate:  sales growth and profits.

So here are my best recommendations: 

• Avoid volume discount pricing.  If your widget costs X, don't casually assume that the more you sell will always lower your company's overall costs year after year.  Sales growth costs money.
• Compare results to your industry.  A common mistake of startup entrepreneurs is to prepare projections in a vacuum. If for example, you are starting a restaurant with super high projected profit margins, you better have a good reason why you can produce this exceptional result.  Investors will compare your projections to established reality.  Similarly if you tell investors that one day a corporation will pay 3 times your projected revenues to buy your business, find at least one recent transaction to support your position.
• Don't force the numbers.  It is true that seed and early stage investors seek out reasonable opportunities to earn rates of return over 30% to 40% before opening their checkbooks.  Still, it's not worth backing into artificial sales and expense numbers just to reach assumed rate of return, sales growth or profitability goals.
• Pay attention to your best work.  If your projections represent an honest assessment of profitability and sales growth, and you don't think the numbers are big enough to attract investors, don't abandon the work in favor of the fantasy-like "blue sky" projections.  Good projections can be good fortune tellers (or loss of fortune tellers too).  Maybe this business idea or approach is not really worth your money and personal sacrifice?  After all, not all product ideas make good businesses.
• Know your gross profit margins.  As a consumer product manufacturer and marketer, your product's investment viability will be judged initially by its gross profit margins.  Be prepared to provide an itemized cost of goods sold to support your projections.

Lastly, try to resist the temptation to tell potential investors that your projections are "conservative."  This is one of those comments that cause snarky, yet knowledgeable investors to roll their eyes in skepticism.  Nothing about investing in startup companies is conservative.  Actually, it is a high risk, potentially high reward endeavor. 

Conservative investing is putting money in a local bank, provided that it is insured by the FDIC!

Write to Susan Schreter at susan@takecommand.org for great funding tips designed for startup entrepreneurs, sole proprietors and fast growth companies.

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