When investors entrust their money to start-ups, they need to have visibility over what is going on in the company. Entrepreneurs and investors must set monitoring activities to find out whether a company is developing well or if it needs support or corrective action.
Monitoring requires regular reports from the entrepreneurs because they are the ones who know how the start-up is doing – or at least they should know.
Reporting is not only of value to investors. It also helps entrepreneurs to find out if their company is still on track and it helps to enforce discipline. It allows founders to base important decisions on facts.
Preparing reports is advisable for entrepreneurs, even without external investors, as the reporting system is the natural continuation and updating of their planning activities. Every core component of the business model should be subject to monitoring.
Entrepreneurs and investors must set monitoring activities to find out whether a company is developing well
Reporting also allows funders to compare the assumptions on which their business planning was based with the actual reality. In doing so, they find out which assumptions were true and which were false.
We have witnessed many start-ups that have changed their business model multiple times after their reporting showed the initial business planning was ineffective or hopelessly optimistic.
Reporting builds confidence and leads the way to future success
The main goal of all planning and reporting practices is to create confidence.
Firstly, writing plans and comparing these plans with real outcomes helps entrepreneurs to gain confidence in their business model. Secondly, these activities allow investors, suppliers, senior employees and other stakeholders of the new venture to become confident in the future success of the company.
The starting point of all reporting activities is the business planning documents that provide a planning horizon of three to five years. These documents determine investors’ expectations, which makes for much easier interactions between investors and the management later on.
There is a nice saying in the world of entrepreneurial finance: “Investors can take a lot of bad news, but they hate surprises.”
The business planning documents allow founders to constantly check their assumptions, measure target achievement and adapt the plans to new market conditions. They also provide investors with information about how the implementation of the plan is progressing.
Why quantitative reporting is crucial
All reporting needs to contain quantitative information, that is, key metrics to measure the company’s performance.
Investors may want to know how many people the company employs, how much money is still available or what the cost projections are for different expenses such as salaries, marketing expenditure, the cost of goods sold, or shipping costs.
Other quantitative measures look at the output of the start-up. One of the most important sets of output metrics involves sales, including the number of customers, the number of orders and average order value. Investors need to see whether the business is scaling well.
Investors need to see whether the business is scaling well
Another core measure is the revenue run rate which is often an important gauge of the value of the company. This helps investors to judge whether the company meets its forecasts, if there are seasonal patterns in sales and if the sales growth rate remains stable.
Quantitative reporting also includes other measures of financial success. One crucial measure is cash flow. For entrepreneurs and investors, cash is king.
While cash flows may be negative in order to finance the growth of a company, negative cash flow needs to be externally financed and requires that the entrepreneur obtain this funding in good time. Positive cash flows will be a delight for both entrepreneurs and investors but may often spark further recruitment, especially on the marketing/sales and product development side.
Measuring performance, the ultimate goal for entrepreneurs and investors
As an entrepreneur, you need to keep track of your progress and the ultimate success of your venture by monitoring key metrics for a number of different reasons. Firstly, keeping track of the performance of your company will guide you in your strategic decision-making and will show whether your business model is working.
Early performance data may indicate that you need to change the direction of your venture or that the business you had envisioned might not be viable.
Early performance data may indicate that you need to change the direction of your venture
Secondly, keeping track of the success of the different business functions will help you monitor the performance and effectiveness of your employees and the actions they perform. Measuring the outcomes of your employees’ activities will enable you to manage the business in a more objective way.
Additionally, by making performance data more visible within a company, a sense of urgency and commitment can be created for the various stakeholders.
Lastly, clearly tracking the success of your activities will help you communicate with investors, strengthening your relationship with them and, in the process, will assist you in subsequent fundraising rounds.
The availability of objective performance data creates transparency, helps the entrepreneur to define a clear set of goals and establishes the progress made towards achieving these goals.
This article is based on knowledge insights by Jan Brinckmann, Miguel Meuleman (Vlerick Business School) and Peter Witt (University of Wuppertal) published in the book Entrepreneurial Finance.
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