5 reasons why you should sense-check your financing now and not wait till year end

“Cash is king, queen and jack”, applies to poker game as well as start-ups. Most entrepreneurs are so focused on building their business idea that accounting has become their last priority. “By the time they approached it at year-end, it’s too late,” said Philip Wong, a management consultant partnered with FastLane Pro. So what should entrepreneurs start doing now to ensure financial health? Philip shared his top five mistakes and actionable steps for entrepreneurs.

- Mistake 1: Lack of a decent business plan and realistic financial goals to become self sustainable

Start ups are used to pitching to investors to secure funding but most haven’t thought about when and how to transition from investor capital to revenue to fund their business. A solid financial plan is critical to this.

- Actions:

o Incorporate payback period and estimated ROI into your business plan, adjust your investment cost to be proportional to estimated revenue to avoid budget overruns.

o When formulating the business model, entrepreneurs must never forget that the business is not just to generate sales but also to make profit, hence operating costs need to be considered.

- Mistake 2: Lack of understanding of your competitiveness to price your products and set payment terms accurately

“You need to know your market well to assess if you are truly a disruptor, or just another player. This will affect your ability to command a higher price point, your negotiation power with suppliers, and whether you need to offer better payment terms to your customers as a selling point. This will all have an impact on your cash position,” noted Philip.

- Actions:

o Understand the selling point of your solution — if your solution has a differentiated edge, you don’t necessarily need to price low to attract customers.

o Develop different scenarios and estimate your financial impact, e.g. priced at industry average, or plus or minus 10% from industry average.

- Mistake 3: Not understanding your monthly burn rate and cash reserve, and impact on payment and credit terms

Some entrepreneurs don’t know their monthly burn rate[i] and the minimum payment and credit terms they need, hence they are unable to negotiate for the right terms, causing capital to dry up very quickly. “An entrepreneur should know his monthly burn rate from the top of his head without asking his accountant. And a healthy start up should also have 3–4 months’ worth of operational cashflow as their cash reserve.” said Philip.

- Actions:

o Calculate your monthly burn rate, and negotiate your credit and payment terms to achieve cash reserve of 3- 4 months’ worth of operating cashflow.

o Build management reports at least every quarterly to keep track of financial health to allow you to make changes in the next quarters in the same financial year.

- Mistake 4: Leaving financing and accounting system to the end

Start-ups under-estimate the workload needed to set up accounting system, leaving it for tax filing at year-end, often causing tax and legal implications at personal as well as corporate level. Philip shared with us three examples from his experience:

1. Business spending are mixed with personal expenditure, hence difficult to be substantiated as those for business purpose and fail to benefit from tax deductions.

2. Naming the founder as founder, contracted consultant or employee of the start-up may have different implications to the start-up’s obligations (MPF payments), rates for personal tax and corporate tax. It’s best seeking professional advice early on about this.

3. Accounting errors only get discovered by accountants or auditors at year-end, by then adjustments in reporting may raise questions from investors.

- Actions:

o Start building good practice early in the year, like bookkeeping.

o If no expertise is available internally, use part-time accountants or outsourcing providers to build up basic accounting function.

- Mistake 5: Raise fixed costs too easily especially headcount, leading to exponential increase of burn rate

For start-ups who are still in their growing phase, replicating the organization structure of large corporate may not be useful, especially in terms of headcount. “Start-ups don’t realise that adding headcount results in disproportionate increase in their cashflow requirements, such as salaries, larger office space, MPF, laptops and other office supplies.” The solution? Build a small team with people who can wear multiple hats, and consider using part-time and outsourced supporting functions before hiring full-time employees.

- Actions:

o Hire colleagues with expertise core to your business and supplementary business skills e.g. HR and IT systems to build a strong team under budget.

So a clear message to all entrepreneurs — start reviewing your financial health today and don’t wait till year end!

Philip Wong

A certified public accountant with over 20 years’ experience at a Big 4 firm, now a management consultant, also partnered with Fastlane Capital, to offer professional accounting and corporate services and solutions to entrepreneurs, start-ups and small businesses.

Author: Flora Yu

Flora has worked in consulting firm, serving MNCs, SOE, POE and FTSE 100 companies, covering strategy and M&A integration projects. She studied at University of Cambridge and London Business School and has worked in London, Beijing, Shanghai, Hong Kong and Taipei.

[i] Monthly fixed costs refer to essential, contractual payments e.g. rent, employee salaries and MPF contribution. This amount also measures how fast the company “burns” shareholder capital; hence it is referred to as monthly burn rate.