(As appeared in Forbes.)
The failure rate of start-ups is close to 90%. So with 9 out of 10 start-ups headed for failure—and I speak from experience—financial management tops the list of challenges for first-time entrepreneurs.
Being aware, smart and surgical with your capital will not only make you one of the few entrepreneurs that survive, but can also ensure you have the funds to grow or reinvent yourself. These are some common mistakes first-timers make that starve them of the money they need if they want to be a serial entrepreneur. (Note: If you’re going to skip some of these be sure to read the last one about taxes!)
- Don’t pour early money into your visual branding and office space.
Resist the urge to make your company ‘look successful’ with luxury office space and expensive branding. This was the downfall of many dot-coms that imploded in the early 2000s. In Atlanta, we saw the launch of tech start-ups whose founders hailed from corporate giants like AT&T and IBM. These entrepreneurs grew up in corporate environments that had blue chip budgets to match—so spending on things like a prominent Peachtree address and a tricked out office seemed reasonable if not essential.This mindset leads startups to burn through their cash (or let’s face it…their loans)—without generating revenue or satisfied, repeat customers. It happened again after the financial crash of 2008. A pile of new entrepreneurs was created from the newly unemployed and they threw money at what they believed businesses do when they start out. Successful entrepreneurs never put ‘show’ over substance. Second-timers understand what’s most important for growth and for attracting investors is having a good product or service and a proven business model.
- Loyalty to (and continued spending on) early company employees can derail you.
Many first-time entrepreneurs form relationships with college buddies and B-school friends. They bond over a shared dream and it seems safe and fun to start a business with friends and trusted associates. The trouble is, these partnerships may provide what’s needed to start a business, but may not combine the right set of skills to grow a business beyond the dream phase. And early employees and partners cost you more money as you begin to taste success. Sometimes it’s more valuable for the company to replace one six-figure director with two $50,000 associates—particularly if your director has the skills for yesterday’s business but not tomorrow’s enterprise. Speak early and often about the businesses need for different team members at certain milestones. Navigate these relationships carefully in case the time comes to amicably part ways (you may want that person back when you’re dreaming of the next venture). It’s possible that these ties will wane organically, because the sense of youthful idealism that brought everyone together becomes sobering when things get hard. Don’t be surprised or insulted if key people weed themselves out before you do. Second-timers know that there are all kinds of people, and they offer different value at different stages of growth. Serial entrepreneurs are more able to cast the right people at the right time and set expectations for coming shifts because they know from experience that change will come and people come and go.
- Manage cash flow and business expenses proactively.
In my first company, the ‘loaded’ costs of doing business were sobering. The second time around I had more clarity about cash flow and cash reserves and the balancing act involved when scaling. First-time entrepreneurs have been accustomed to drawing a regular paycheck and filing a tax return every April and may not be prepared for all the costs of doing business: rent, taxes, licensing fees, liability insurance, employee benefits, technology infrastructure, the cost of bad debt, equipment and maintenance, legal fees, recruiting and more. There may be tens of thousands of dollars of expenses that must be paid before you take a penny of salary—if you can even afford to draw a salary.
- Understand taxes, estimated taxes and the pain of penalties.
Taxes are particularly dicey for first time business owners, especially if a CPA isn’t one of the first relationships you establish. The more profit you make, the more taxes you pay—and that means keeping enough cash in reserves to write that check when it’s due. Some taxes and fees have to be paid monthly or quarterly, and are based on projected earnings so you may not even have the income yet. This is where the balancing act comes in. To establish the infrastructure and talent you need to support more business, you have to time your spending to meet your monthly operating expenses and plan/save for taxes. Many companies go out of business because they don’t realize how long it will take for profit and reserves to build up. Let’s say in January your receivables are $200,000 a month, you offer net 30 terms (good luck with that), and you make 10% profit. It will be June before you’ve accumulated $100,000 in reserves (if you didn’t spend that profit along the way). You’ll want to be projecting your year-end profit and tax liabilities early and often. It’s smarter to make your big purchases at the end of the year once you’ve accumulated reserves and can reduce your year-end profit—and the corresponding tax bill. I didn’t understand this at all as a first time entrepreneur. It took me several years as a second time entrepreneur to get into a groove where I could synchronize growth with projected profit and tax burdens. Successful entrepreneurs can’t think ‘paycheck to paycheck’ or ‘month to month’ like employees often do. Living in that short of a window will never give you the visibility you need to operate predictably and to build reserves.
Demonstrating competence by pragmatically growing your brand, scaling your team and being wise with your money are the things that make you a good bet for a banker or investor. When I was able to demonstrate that I could make money and grow toward greater profitability—without needing other people’s money—it was amazing how interested and ever present bankers, investors and acquirers suddenly became. If you can think like a second-time entrepreneur the first time around, you can beat the odds of failure and focus on the exciting and rewarding aspects of shaping your own destiny.
Like the blog? Follow me here and on Twitter @MoiraVetter. What do you think entrepreneurs want to know about managing or securing capital?