If you don’t know your numbers, you don’t know your business. Period. I cannot overstate how important it is for entrepreneurs to accept this fact. Yet, year after year, as a judge of national business plan competitions such as Miller Lite Tap the Future, I watch entrepreneurs with promising ideas crash and burn because their financials don’t makes sense—not even to them! Especially when it comes to pitching angel and other investors, staying out of trouble with the IRS, and other pursuits requiring the support of others to raise capital and grow your business, your credibility depends on you knowing your financials cold. Not guesstimating. Not fudging. Not wishing. Knowing.
With this in mind, here are three common mistakes you need to avoid when it comes to business planning and your financials.
Telling a story that is not supported by your numbers. Your “word story” and your “numbers story” must match up. Too many entrepreneurs naively think that they can romance investors out of their money with a compelling story alone, including anecdotes of customers demanding the product and predictions of limitless sales potential, with a perfunctory nod to market barriers, competitors and risk. Well, if you’re going to tell a great story, you’d better have the numbers to back it up. That means the financials in your business plan need to be tight.
By the way: You remember the old saying “Money talks, but bullsh– walks”? Well, whether pitching in “shark-tank” style business plan/elevator pitch competitions, currying the support of your local banker or engaging angel investors, the best numbers you can share, if you have them, are actual sales and orders, i.e. customers who are demonstrating demand because they are already buying what you’re selling. Your business may have thousands of Twitter followers and Facebook “Likes,” and traffic to your website may have tripled over the past year. That’s all well and good, but in business, we measure demand by dollars—that is, actual money spent by customers. Every number you share needs to directly co-relate to how it drives sales growth and/or profits. If you have revenues, and especially if you’re turning a profit, lead with that, not your mind-blowing market survey numbers. In any case, your financial model, and all of the related numbers and assumptions, must connect logically to the story you’re telling about your business.
Starting your market research and analysis at 30,000 feet—and never coming down. The key to tight financials and a credible narrative is research. Unfortunately, too many entrepreneurs try to get away with using Census Bureau figures and broad industry numbers to make the case for why there is a need for their business—for example, citing how many new mothers there are in the U.S. each year and disproportionate use of mobile phones by African Americans as evidence that people will pay for a service to help parents find Afro-centric baby clothes. While those general trends may be relevant, they are no substitute for real research on the spending patterns and preferences of people who purchase baby clothes in the specific target market your business aims to serve—a much more involved task than just looking up Census data. Most small businesses are niche players, not mass marketers. Instead of broad financial forecasting based on you capturing some percentage of an existing market, base your assumptions on actual numbers for how much it costs to create and deliver each unit of product or service and to acquire a specific, clearly defined and targeted customer, as well as what market research tells you about how much you can charge for each unit and what profit can be realized. This is called due diligence, and it’s necessary if you are going to convince investors that you may actually know what you’re doing, understand the market you intend to go after, and are worth taking a risk on.
Not using a real accountant and Generally Accepted Accounting Principles (GAAP) to do your financials. I’m going to keep this one simple: Hire a real CPA, preferably one with experience with preparing financials for businesses similar to yours, or at least with expertise in your industry. Especially when it comes to staying on top of your taxes, filing deadlines and paperwork, a good accountant allows you to save your two most important resources: time and money. The money you think you’re saving by doing it yourself or hiring someone who has no expertise or credentials beyond getting straight A’s in high school math, pales in comparison to the price you will pay if the job is not done right, on-time and with proper filings and documentation. Entrepreneurs often have to cut corners in a lot of areas, especially during the start-up stage, but this where you cannot afford to be cheap.
If you want to be taken seriously by potential investors, GAAP is the standard; abide by them. I also strongly recommend taking one or two basic accounting courses, maybe at a local college, so you understand GAAP for yourself, as well as personally stand by the story you’re telling with your numbers. Remember, you will be using these numbers to not only track what your company is doing, but to identify trends so that you can make projections and adjust your strategy and goals going forward—you know, run the business.
There is nothing more hurtful to your credibility than you not knowing or understanding your own financials. It’s the CPA’s job to prepare your financials and to help her clients to understand what she’s done; it’s the CEO’s job to know them cold.