Why’s and How’s of Internal Cash Management: Fuel that keeps the engine of startups running.

There is a well known quote by Benjamin Franklin “God helps those who help themselves”.

As we know, most founders start with bootstrapping their startups, and they never have enough cash, at least until very serious funding rounds, and even then their wants and desires often outstrip available cash, especially as they get near the end of their runway. We’ve seen it all around us, startups overextend themselves and because they are not tracking their money at all times, they wake up one day and realise their year-long runway has been reduced to a week. The stories are out there to be read and headed, but startups can avoid failure by getting smart about how they spend their startup capital?

Listed below are the reasons due to which most startups fail. Almost 29% of the startups fail as a result of running out of cash. In this blog we have briefed about solutions to the internal cash management aspects of startups.

1. Art of Survival with balancing Spend Control

The first rule of Cash Flow is to remember your goal: Survival at all costs. Even if vendors are screaming and employees leaving, your job is to ease the pain, take care of the most urgent needs. Knowing what’s necessary vs. “nice to have” can make the difference between success and going bust. For example, minimizing spend on everything from office space to the number of software subscriptions your team forgot to cancel after the free trial will ensure money goes on growth, not down the drain. Thus, once money is spent, it’s spent and the longer you can hold on to it, the better.

2. Constant flow of revenue will keep you healthy

Project or one-time revenue is nice but it really hurts cash management over time. In an ideal scenario, you should have many customers paying you monthly or quarterly — this is key as it brings in a little cash every week and month which you will use to pay around for monthly bills and salaries.

Thus the important key note here for startups surviving on Project based revenues is, apart from “Small volume – large margin customers” you ought to have “Large volume – low margin customers” as well!

3. Manage your receivables 

As a brand new company, you might probably be happy to have customers and so eager to please them that you might end up bankrolling them for 2-3 months. This is absolutely not a good thing to do – unless you are a bank. Make all invoices “due immediately” and move towards automated charging as soon as possible. One option of intimidating customers to pay upfront is to offer early bird discounts. This practice may impact your profit margin in the early stage but it will maintain the flow of continuous cash and thus keep the engine running.

4. Adapting optimum business model

It’s said that Don’t bite off more than you can chew. The prospect of a big new client is irresistible for most startups. The mantra of saying yes and figuring out what to do later is revolutionary and inspiring but it can spell serious trouble. The rule is simple, your customer acquisition cost (CAC) should be less than the lifetime value of the customer (LTV). A ‘funnel’ strategy like this will help “out of X non-recurring users (unique users), Y nonrecurring users converts and the revenue is Z + to have X nonrecurring users we need to spend X”.

The Capital Efficiency rule says, “Your CAC should ideally be recovered from the customer within 12 months”.

5. Do Internal Corporate Governance for maintaining Harmony in Team:

Let’s understand the complexity involved with a simple example. Say for instance, there are 2 friends agreeing to run a startup online sportswear store. One partner proposes to invest a capital of $100k each. However the other partner who is not from a financially strong background is unable to invest huge capital and he is also afraid if the startup fails, he will lose all his savings and investments. Hence they agree that the second partner will invest $50k capital in the form of cash and remaining in the form of sweat. Now the challenge comes: how to determine the partnership ratio? How to do the valuation of sweat equity?

Most of the times when a certain partner exits or a new partner joins lots of challenges are faced as to gaining ratio, surrender ratio, etc.

In such cases it is always better to have proper corporate structure with the right type of financial instruments issued to either of the partners in the form of general equity, debentures or varied types of convertibles with terms of each instrument clearly defined and mutually agreed, according to the roles and responsibilities of each partner, admission process, exit process, etc for smooth functioning of the startup as a whole. This is a part of internal corporate governance which helps run a business smoothly.

To know more about various agreements and instruments which are essential & must for the founders on Day one of starting the startup and also anytime during the journey, irrespective of whether they are planning to fundraise, just go through our exclusive blog on Internal Corporate Governance.

6.Manage your runway

We often hear about that story of The Ant and the Grasshopper.The Grasshopper spends all the summer singing while the ant works hard to store up food for winter. When winter arrives, the grasshopper finds itself dying of hunger and begs the ant for food. However, the ant rebukes its idleness and tells it to dance the winter away now. The moral “Work today to eat tomorrow” fits perfectly well in the Start up scenario as well, isn’t it?

The best time to raise money is when you don’t need it. The best time to raise money is usually before the product is placed into the marketplace, where you can tap and elevate the expectations of the marketplace ahead of results. The best time to raise money is before you have to increase your burn rate significantly and cut down on your runway. Always be prepared for a long overhaul. 

Your “runway” is the amount of time you have until your startup runs out of cash assuming your income and expenses remain constant. Surprisingly, most entrepreneurs do not have a Zero Cash Date. The danger of raising money with too short a runway means founders can get backed into a corner. What happens when it takes 9 months instead of 6 months to raise capital? What happens when the investor realizes you have 6 weeks runway left and delays to bleed you dry and get a better price?

7. Vendor management is an art

Paying a few smaller payments over time is better than a big one, though situations vary. For example, I’d rather pay $1K/weekly than $4K monthly or $8K every two months. Why? It feels better for them (and is easier for you), as you really are only as good as your last payment and even a trickle of money from you feels like continual positive interaction. Second, deferring payments and retaining costs give you flexibility to deal with emergencies, unexpected opportunities, or having to cut costs.

8. Run Small Experiments to Prove Traction

Oftentimes, entrepreneurs don’t have the time or money to run large-scale experiments, but you don’t have to spend a lot of money to prove that you’re gaining traction. Running a lot of small tests to measure different aspects of your business can be even more effective than running a few large experiments. The process is called Minimum Viable Product (MVP).

For instance, like in a war there are varied plans, say Plan A, B and C for an army to be chosen from and probably only one of them will lead to success. Now the challenge before the army is to carry out multiple iterations that too with limited arms & ammunition. Say Plan A is implemented followed by Plan C and both plans failed. With experience, the army concluded that Plan B will surely lead to success but it is unable to implement it because 90% of its arms & ammunition are consumed in implementing Plan A and C.

Following the scientific process of MVP, entrepreneurs could determine ahead of time what financial results you would truly achieve. If the business doesn’t meet those levels, evaluate why they weren’t met. Iterate quickly. The process is explained in detail in our blog Startup begins with IDEA! Successful Startup begins from MVP!!

9. Prepare for the Long overhaul

It is not just the idea which will pay you in the long run. Always keep in mind, at the end of the day, you are also an investor in your own startup. If you are yourselves not vigilant towards your capital, how can an investor trust you with their own money? Managing cash flows is an intellectual job, for which seeking expert advice is always advisable.

Check My StartUP is World’s #1 Unique Startup Analysis Service for Fundraising and Internal Cash Flow Management & Governance comprising of:

• Discover exhaustively by questionnaire
• Diagnose extensively by experts
• Delivery of “StartUP Report Card”

You can get your startup checked with the most innovative and worldwide proven scientific process to enhance the preparedness & probability of fundraising. Transparent can guide you on how to effectively manage your cash flows and get the maximum results with minimum deployment of funds . If you need assistance, then Transparent can manage the internal cash flows for your startup with scientific proven techniques utilising the 200+ years of collective experience of our team.

How do you think Internal Cash management helped you out of the chaotic situations in your startup? Share with us your experiences on the aforesaid.