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Startup Budgeting

November 1, 2021

Budgeting for a startup is extremely hard and you never get it right. This is particularly true on the revenue side. The right way to do it is to zoom in on the things that are within your control and not spend too much time on the things that are outside of it.

When you look at the revenue side, you cannot forecast anything with reliability at all, because sales are dependent on factors that are outside of your control. Particularly in the early stages of your company, who knows how long it's going to take before customers start buying your product.

That doesn't mean that you should just take an arbitrary number for revenue. The good way to do it is to define your sales process in reasonable detail and tie this together with your budget. Typically it's a multiplication of a few key metrics such as weekly signups -> conversion to paid users -> and average revenue per user. Or it's outbound e-mails -> conversion to demo -> conversion to customer. You're not really becoming that much wiser in terms of understanding reliably where your sales are going to be in the future. The uncertainty has only transferred to the metrics rather than the total sales. But now, at least you see where you are and what you need to spend your time on.

A bad way to do it is to assume a total addressable market and take a small percentage of that and hope that you can hit that. Another bad way to do it is to assume an annual growth rate. This is no better than guessing.

On the cost side, you typically have more control. Cost budgeting is therefore often something that you are more likely to get right. As a consequence of this, I try to spend more time on the cost side. Probably the single item that I pay the most attention to in a budget is the personnel cost. One of the most important decisions that a startup makes is who to hire and when. It is a decision that is completely within the company's control. It is such an important topic that it should and often is, laid out separately. However, the cost side can also be tricky to get right because costs are usually front-heavy. A recruitment, typically one of the biggest costs for a startup, often has a lead time of 3 months. In the early years, every recruitment is likely to be extremely important and you don't want to spend time finding really great candidates that you don't follow through on. So here it becomes tricky again because your uncertainty in revenue cripples into the cost side as well.

The cautious way to do solve this is to only spend the money that you have. This is probably a good option for many companies. The wrong way to do it is to have way too high confidence in that your revenue figures are accurate, and spend the money as if it's in the bank. For most venture startups, the balance is to find something in between.