Financial Modelling for Startups

Edited byAshish Kumar Srivastav
Reviewed byDheeraj Vaidya, CFA, FRM

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 in shape, this modeling will help prepare the budget and business plan for them and will help present that to 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 works through the micro factors. Starting points are the industry standards, which narrow down to targets the companies can fit in. This approach helps define 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 you want to acquire.

TAM (Total Available Market), SAM (Serviceable Available Market), and SOM (Serviceable Obtainable Market) models 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 we want to acquire, known as SAM. From that SAM, the existing 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 we can capture.

#2 – Bottom Down Approach

The main problem with 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 a tiny portion of the market for his sales and then assesses 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

Why should an Entrepreneur Focus on Financial Model?

While creating the financial model, the entrepreneur can understand some aspects of the business that he otherwise won’t be able to understand. Though there are many templates for financial modeling present online, 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 unnecessary 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 company’s assumptions 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. It 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.

Recommended Articles

This article has been a guide to Financial Modeling for Startups. Here we discuss the approaches to creating the model along with a step-by-step example.  You can learn more about it from the following articles –