Financial Modelling for Startups

What is Financial Modeling for Startups?

Financial modeling for startups is the process of projecting and forecasting revenue, customers, employees, costs etc., for the future to understand and assess the profitability and viability of the business. Given that the startup is still going into shape, this modeling will help prepare the budget and business plan for them and will help present that to the potential investors.

Two Approaches to Startup Financial Modeling

Financial Modeling for Startups

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#1 – Top-Down Approach

In the top-down approach, the entrepreneur starts with macro factors and then work through the micro factors. Starting points are the industry standards, and then it narrows down to targets that the companies can fit in. This approach helps in defining the forecast based on the market shareMarket ShareMarket share determines the company's contribution in percentage to the total revenue generated within an industry or market in a certain period. It depicts the company's market position when compared to that of its competitors.read more that you want to acquire.

TAM (Total Available Market), SAM (Serviceable Available Market) and SOM (Serviceable Obtainable Market) model help in this kind of approach. In this model at first, TAM for the product is estimated. Then we have to decide the part of the market which we want to acquire, which is known as SAM. From that SAM, actual service base of the company is known as SOM based on the existing competition. So in this model, we start with industry size to the market share that we can capture.

#2 – Bottom Down Approach

The main problem in a top-down approach is that it can be too optimistic. Usually, we take SOM as a percentage of the total market, which is very hard to achieve. In the bottom down approach, the entrepreneur takes the tiny portion of the market for his sales and then assess the sales from his company’s inside point of view to estimate the forecasts and modeling procedures.

Steps to Create a Startup Financial Model

You can download this Financial Modelling for Startups Excel Template here – Financial Modelling for Startups Excel Template

Here we use the top-down approach to create the financial model in excelCreate The Financial Model In ExcelFinancial modeling in Excel refers to a tool used for preparing the expected financial statements predicting the company's financial performance in a future period using the assumptions and historical performance information.read more

Below is the excel format for the Startup financial model:

Example of Startup Financial Model Template 1.0
Example of Startup Financial Model Template 1.1

Assumptions Used in the Model

  • Base Revenue or market share is one of the main assumptions for the startups. Usually, entrepreneurs try to drive it through the industry standard and their positioning.
  • Growth rate: This is one of the main assumptions which drives the whole financial model. While taking the growth rate of the revenue and cost, the entrepreneur needs to understand the macroeconomic factors also such as industry or country health and then look through their startups’ cash position.
  • Future investment: For the growth, startups need continuous investment from the external sources, and they will have to make that assumption also while creating the financial model.

Why should an Entrepreneur Focus on Financial Model?

While creating the financial model, the entrepreneur can understand some aspects of their business which he otherwise won’t be able to understand. Though there are many templates for financial modeling are present online, but entrepreneurs should always create the model, keeping in mind the nature and assumptions of their business.

Also by working through each row and column of the financial model, the entrepreneur can understand what the missing aspects of the business are; or what elements are not necessary and remove those from the financial model. It also boosts their confidence while presenting to the investors.

Why Build Financial Model for Startups?

  1. It helps in understanding the revenue and cash flow forecastCash Flow ForecastCash flow forecasting is forecasting or anticipating the cash inflow and outflow for the future period by the management of the business to make sure that the business will have sufficient funds to carry out the activities on a regular basis, and if there is any shortfall, they has to plan for alternate sources of funding for the business. read more for the business.
  2. It helps in understanding the assumptions that the company has taken while creating the business.
  3. Investors carefully look through the financial model before investing in the business.
  4. It helps in understanding the viability and profitability of the businessProfitability Of The BusinessProfitability refers to a company's ability to generate revenue and maximize profit above its expenditure and operational costs. It is measured using specific ratios such as gross profit margin, EBITDA, and net profit margin. It aids investors in analyzing the company's performance.read more.
  5. Helps in presenting the real picture of the business to the external investor and debating the investment terms.
  6. It helps in quantifying the assumptions for the startups.

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