Founders & Friends with Scott Orn

A Startup Podcast by Kruze Consulting

Startup Podcast by Scott Orn

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Posted on: 12/10/2019

Scott and Healy talk about getting your startup’s budget ready

Scott Orn

Scott Orn

Chief Operating Officer, CFA - Kruze Consulting


Healy Jones

Healy Jones

VP of FP&A -
Kruze Consulting


Scott Orn & Healy Jones of Kruze Consulting - Podcast Summary

The year-end is a great time to prepare your startup’s budget for the next year. Scott Orn and Healy Jones of Kruze Consulting talk about best practices for preparing and managing your startup’s budgeting process.

Scott Orn & Healy Jones of Kruze Consulting - Podcast Transcript

Speaker 1: So, when your troubles are mounting in tax or accounting, you go to Kruze Founders and Friends. It’s Kruze Consulting Founders and Friends with your host, Scotty Orn.
Scott: Hey, it’s Scott Orn of Kruze Consulting, and today we are meeting with Healy Jones, head of FP&A at Kruze Consulting.
Healy: Hi, Scott.
Scott: We are incredibly lucky to have Healy working with us. He is amazing. A former venture capitalist, former investment banker, former VP of marketing. He knows numbers inside and out, and he does a ton of planning and budgeting with our clients. It’s the end of 2019, so we thought what better time to talk about budgeting?
Healy: It is time to develop your budget for next year.
Scott: So important. And if you don’t think it’s time, guess what? Your venture capitalists think it’s time.
Healy: Your board should be asking you for a budget that they will approve. That is a best practice in governance, and if you have a legit VC on your board, they should be asking you for this. And if they’re not-
Scott: Late January, last week of January is like 80% of the plans are approved.
Healy: Yeah. If you have a top tier VC and they’re not asking you about this, they’re not paying a lot of attention to you and that’s a bad sign.
Scott: If you want to score some points, let’s turn it into a positive. If you want to score some points, email your venture capitalists and say, “Excuse me, miss venture capitalist, I would like to present to you, in the middle of December, my 2020 plan.”
Healy: It is a great way.
Scott: Then you get all the questions out of the way, and then you can approve and ratify that budget in early 2020. And that VC is going to brag about you at their partnership meetings, and this makes the second check a lot easier to get.
Healy: It’s true. You are trying to impress that person so they keep writing checks.
Scott: Yep. So, let’s talk. What’s the first step besides a proactively getting on the calendar to doing budgeting?
Healy: You need to have goals. Your startup needs to have goals, and these are generally pretty strategic goals. What do you need to look like to achieve whatever that next valuation milestone is? As a funded startup in particular, you’re trying to have some sort of a trajectory that makes it possible for that next check to get written. Like it or not, most startups are burning money for a long time. You just did a Series A, you want to be in good shape for the Series B. You need to know what you have to look like to raise that B successfully. What are your valuation creation milestones? Are they product milestones? Are they revenue milestones?
Scott: What are some examples? Like, consumer internet company need, what, 100,000 paying users or something like that?
Healy: Well, it’s really going to vary a lot.
Scott: It’s all over the place. But just give some samples so people, you know, a SaaS company…
Healy: A lot of SaaS companies are looking at 10 million in ARR for their next round with a particular growth rate attached to it. So, it’s not just, you haven’t been flat, but you’re growing really well. So, you’re trying to double or triple your revenue, and you’re trying to get to a certain revenue milestone. I think an added thing we’re seeing, a new flavor that’s coming in end of 2019, and I think is going to be prevailing in 2020 is you have to have a path to really great margins. A lot of these big public companies have been getting nailed for having pretty weak gross margins, meaning that for every dollar in revenue they make, they don’t throw a lot toward the bottom line. That makes it really hard to become a cash flow positive business. And so, I believe that VCs are still willing to fund a company that doesn’t have great gross margins right now, but you need to have a credible path to, as you scale, starting to throw cash down to cover your operating expenses.
Scott: Guess what? It’s already happening, because I’m working with a bunch of companies raising money right now and I know you are too. The cool thing about us is we get feedback right from the front line, heat of the battle, while companies are trying to raise the next round, and VCs are already asking those questions. It’s like the we work headline risk is now all the way been indoctrinated by the VC community, which is good. I actually really believe in having people invest the right amount of money at the right valuation, and not being overly eager to get into a company because it actually keeps you disciplined the whole way. So, they’re actually doing you a favor as a founder by asking you tough questions. You just needed to be prepared to answer those questions. And guess what? Your budget is your tool set to be able to answer those questions.
Healy: The financial model is a mechanism to answer a lot of the tough questions. So, the VC will look and see that in 2022 you are going to have a 90% gross margin. That’s interesting, and then that gives them the opportunity to ask you questions about it, as opposed to seeing you’re going to have 100 million in revenue and a 2% gross margin. That’s a dangerous thing to have because it looks like you’re just a tremendous user of capital and you’re not actually going to ever have a legit business, right?
Scott: So, after they figure out their goals and they’ve written them down on a piece of paper-
Healy: If you have an exec team, you guys probably want to do an offsite or something where you want to sketch out, this is what we need to look like to be successful startup. You need to sketch that out and you probably need to have some constraints as well. If you only have 5 million in the bank, you can’t burn 20 million unless there’s another check on the way, right? So, you can’t just tell the team we have to be this big, go figure it out. You want to impose constraints as well. So, produce the goals with the team. Make sure everyone understands that, hey, we need to triple revenue, but sales and marketing costs can only double. That might be the message you have to deliver, and you want to deliver that early in your strategy and planning session so that you don’t get every department person coming back and trying to spend three X what the budget needs to be, because then they all have to go and cut and that hurts. That’s really a painful process. They’ll feel like they’re losing something. It’s much better when you say, “Hey, I want you to grow revenue three X and you can only spend two X,” or “Hey engineering, you can’t grow more than 50% next year.” Give those constraints so that they try to work within them. Does that make sense?
Scott: Or guess what? You get to grow 50% next year, or you get to spend two X. Congratulations, marketing.
Healy: Sure, put it positive. But I can tell you as a major budget owner of a company that eventually had an IPO, the first time the budget process was run was what do you want to do? And every department came back way over budget and we all had to go cut, even though, obviously, we had never had… Those budgets weren’t even approved yet, but it felt like we’re cutting, right? Because we’re like, “Oh, we’re going to do this and that,” and then it’s like, “Oh, no TV ads. Oh, that hurts.” So, we never really thought we were going to do that, but we decided we would ask for it.
Scott: So, the exec team comes back from the offsite. They’ve got their goals, they’ve got their constraints. What’s the next step?
Healy: So, what you want to do is you either want to work with someone who’s put budgets together if they haven’t been particularly familiar with spreadsheets, or you want them to come back and lay out the high level spend for you in terms of head counts and other types of spend that they might be doing. So particular ones to think about are things like your server costs if you’re a SaaS company, or your marketing and sales costs. Those are pretty important things that you want each department leader to come back to you, and may want to work that. That’s one of the functions that we provide is where we’ll work with the exec just to help them think through what their spending was last year and compare it to what they’re going to do, and help them put it into a standardized spreadsheet so it’s easy to roll up. But someone needs to go and then gather the information from all your team and put it in one place and understand what your cash flow is going to be. Understand what your revenue trajectory will be if you’re generating revenue. Understand what your headcount is going to be. You want to get these all in one place, and you want to drag it out for a few years. You don’t want to just end at the end of the year, because the run rate at the end of the year matters a lot. If you’re raising money and you’re a SaaS company, the ARR at the end of the year is the number that people are going to look at quite a bit. But you also have this burn rate that if it gets crazy at the end of the year, that means your next year is going to have a super high burn unless there’s something crazy happening with revenue growth.
Scott: You also want to build your budget, or model, the way we talk about it, to be flexible because every company has that end of the year ramp, and odds are halfway through the year are going to be behind plan a little bed, or you’re going to look at it and be like, hey, we can’t even hire that many people, so we need to pull back some of our expenses. Or you’re going for another round and the next investor doesn’t want to underwrite that kind of burn rate. So being able to dynamically change your model is super-duper important. That’s actually something you’re really good at building that kind of skeleton infrastructure for clients. But just whether we build it or you build it, and I’m a huge fan of founders who can build the model for themselves, because they really can understand the levers in their business. It’s very powerful. Make it dynamic, make it easy to change.
Healy: Sure, exactly. That’s right. And you want to then circulate it back up with your management team so that everybody understands and is on the same page. And I guess we’ve talked a lot here about some of the sales and marketing costs because those are usually pretty high expenses, but you want to make sure that you’re not under staffing the team that’s developing product if you’re in a product development mode. You want to think about when customer service might need to pull in and whatnot. And so, if you have peers who you can ask, this is a good chance to work with your VC to understand what they’ve seen other growth companies like yours do. Definitely an advantage not working with someone like us because we’ve done this so many times that we get the feeling for, hey, you’re going to do 50 million in revenue with no customer service. That’s pretty interesting. Let’s just throw that against the wall and talk about it for a few seconds because it is not something we’ve typically seen before.
Scott: We can kind of keep you from making those kinds of mistakes. The other thing that that I recommend is don’t get super caught up in it’s got to be a fancy income statement, balance sheet, cash flow statement. That’s preferred. But even if you can just sketch out an income statement of what’s your revenue and spending is, you can come to someone like us, we’ll build the balance sheet cash flow statement for you. Or you can even just make it work. But having something rather than nothing is much, much preferred. You do not want to walk into that first board meeting of the year unprepared and not have something, because even if they didn’t say anything to you, the venture capitalists, they’re probably going to ask you. You want to have the stuff prepped and at least be able to talk to it.
Healy: For sure. And the other thing you want to be able to do is you want to be able to track your progress against it. So, if you said you were going to burn half a million dollars in January and February and you burned a lot more than that, you burned $1 million, that is probably a big deal in terms of when you run out of cash. You want to think one of the outputs needs to be your cash out date. What month does the business go to a negative cash balance? You should have fundraised before that, but you need to be prepared to have a lot of exec time spent around fundraising then. You want to work with your existing VC to make sure that the business looks attractive three to six months before that for the next round. So what’s your cash out date, and what do these different assumptions do in terms of head count or marketing spend or revenue growth to that cash out date? How does it move and track? You want to track that every single month. You’ll want to track your performance against revenue every month, your performances against the expenses every month. Your performance against head count is actually something you need to think about too, because it’s not unusual for it to be hard to hire right now. And I see a lot of execs saying they’re going to hire 10 people a month and only hiring two. Eventually that causes a problem. You don’t have enough salespeople to hit quota. You don’t have enough R&D folks to build the product. You really want to track your progress against these KPIs and see how you’re doing every month.
Scott: The budgeted actuals, basically what you described is budget actuals, which is critically important and we recommend to every company. We actually provide that service. But knowing when you’re off in a given month and knowing when you’re off for a couple months in a row is super-duper important. It’s the ultimate discipline. So, I highly recommend that, and we can do that if you need help. The other thing that you talked about was scenario running and whether you do it in your… You should be able to just do it in your model very quickly and easily. But when you’re at the board meeting, I’ve been to a million board meetings, the venture capitals are going to, they’re very good at this kind of stuff in their head. They’ve looked at so many companies over the years. They’re going to say, “Do you really need to hire 30 people? What is your burn look like if you only hire 15?” Or “What if the average selling price is a little bit higher, not giving credit? I want to see you have a premium price.” You need to be able to play that forward, come into that board meeting with almost like crib sheets or crib notes knowing what some of these hypothetical situations are like. That will do two things. It’ll instill a lot of confidence from the board in you, the founder. Secondly, you’ll have a much more productive conversation at the board meeting and you can actually settle on a direction, because instead of doing the old, “I don’t know, I’ll get back to you,” and a week later there’s a big email discussion by the board, which no one’s really going to follow and it’s not going to be that productive, you can actually get sign off on your budget and go ahead and start making those hires instead of messing around for another month while you’re getting approval.
Healy: Right. Well, I think a lot of it goes back to what you first were saying, Scott, which is you want to work with the VCs prior to the board meeting around what your goals are, and what you want to spend, and what you need to look like at the next fundraise. And you basically want to have the model or the budget pre-approved before that board meeting. It’s fine to have some discussions in the board meeting around strategy and things like that, but for the most part you want it pretty baked. You don’t want it to be a surprise, because if it’s just a surprise, particularly if you have more than one VC, or a really thoughtful independent director, they’re going to turn you in circles and it’s going to delay everything until the next meeting. So work with the investors ahead of time, particularly for them to tell you what you need to look like for the next fundraise, because they should be pretty in the weeds on that. And you got to make sure that they’re all thumbs up on the high-level concepts before you walk into the board when you need to get the budget approved.
Scott: I saw my man Jason Lemkin from SaaStr dish out some incredible advice on Twitter. He said at every board meeting ask your existing board, venture capitalists, if you’re fundable, and if not, where you need to be to be fundable for your next round. Because oftentimes companies dip in between rounds where they look really ugly for three months because revenue hasn’t quite caught up, or they hired a lot of people and their burn went up or something like that. But getting a real-time check on, hey, am I fundable right now or I’m not, or do I have some work to do, is incredibly powerful. Some of the best advice I’ve seen. So, shout out to Jason Lemkin on that.
Healy: Yeah, I think it makes a lot of sense. If you’re a startup that’s burning money, you got to know whether or not you’re going to be able to get the next check and you need to know what you need to look like to make that happen. So that’s where I think the top tier investors really differentiate. They can help you think through what you need to look like to succeed at that next stage. And a lot of these larger VCs will work with you around the budget, or they’ll have a junior person that will work with you. I have yet to see one that actually wants to put the budget together for you, but they will gladly sit there and talk to you about, hey, what are your assumptions, and how they feel about them.
Scott: Totally agree. So, to recap, how do you start the budget process and how do you finish strong?
Healy: Yeah. Gotta get your strategy, got to get your goals, get your team on board, make it a team effort. Get everything pulled together. Along the way interface closely with your existing investors. Solicit their advice and opinions on what you need to look like to be fundable and to make sure they agree at a high level what the strategy that you’re trying to lay out.
Scott: Awesome analysis. If you need help with that, Healy Jones at Kruze.
Healy: And we also have a lot of free models available for startups on KruzeConsulting.com. So just go to KruzeConsulting.com and navigate to Startup Resources and you’ll find that we have quite a few pieces of Excel that you can download and they are battle tested sheets that have been used by startups to raise money.
Scott: Our clients have raised $2 billion in the last, what, four years?
Healy: Yeah, it’s a lot.
Scott: I think it’s actually more, but that’s an old stat. But we know what we’re doing. The model’s free. Use it, and please, for the love of God, be proactive. Manage your board. Get on their calendar for a December conversation around this. And then have this approved in the first couple of weeks of January. You will look so smart. Your board will have a ton of confidence, and you’ll be able to execute. You’ll be able to do what… The whole reason for raising venture capital was to build a company. You will be able to start building your company in January.
Healy: It will free up a lot of your head space to go and just get stuff done.
Scott: Thank you, Healy, for talking FP&A and budgeting for 2019.
Healy: Thanks, Scott.
Scott: All right, buddy.
Speaker 1: So, when your troubles are mounting in tax or accounting you go to Kruze Founders and Friends. It’s Kruze Consulting Founders and Friends with your host, Scotty Orn.

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