Entrepreneurs and small business owners (like you) know financial models for startups don’t just make good business sense.
By providing a comprehensive plan to investors, you show your knowledge of business accounting and demonstrate competence.
Attract more startup capital today by studying the best financial models for startups and showing stakeholders you mean business!
What is a Financial Model?
Financial models for startups are comprehensive (but ultimately incomplete) pictures of your future business prospects.
However, no matter how well you anticipate the future, you’re in for some surprises.
Create spreadsheets and graphs, run the numbers, but remember – this is only the tip of the startup accounting iceberg.
Consider the following financial modeling examples and choose one that most closely matches your SAAS company’s financial structures.
Types of Financial Model Templates
You can find a wealth of financial models for startups online.
Remember, keep it simple – you’ll continue expanding on this “seed” of a business model for the entire lifetime of your SAAS company.
Ultimately, you aren’t looking for a perfect model to guide you to profitability; its’ a model, not a mentor, right?
Financial plan template
A financial plan template turns your conceptual business plan into a mathematical model with real numbers.
Sure, your projections are just projections (and become more solid as you get more operational data). But, you have to start somewhere and put your (hypothetical) money where your mouth is.
Financial budget template
Over time, financial models for startups morph into comprehensive budgets. As you convert your business plan into figures and graphs, you start to create an all-encompassing financial model for future analysis and planning.
Consider this first effort a bridge between your business plan and an eventual financial projection template.
Financial projection template
Your SAAS company’s financial model should provide a complete view of your planned operations, projected revenues and expenses, market share, competition, etc.
By putting your business plan into numbers and graphs, you can show investors your microeconomics savvy.
Create the best projections you can with the right formulas and formats (which I’ll provide later in this article).
Start with a financial projections template, tweak it to suit your needs, and keep adjusting as your company grows and changes.
You can locate a vast array of templates that facilitate financial models for startups. Some suit Excel and some are made for Google Sheets.
Financial analysis template
Choose break-even analysis and sales revenue analysis templates and adjust them to suit your SAAS venture.
You can find Cost of Goods Sold (COGS) templates and Startup Costs Calculators to help with every aspect of financial models for startups.
Revenue model template
When calculating your anticipated revenues, look for templates that suit the subscription model used by most SAAS companies.
Recurring revenue and service revenue models can help you grasp the extent of your projected growth – and balance it with your expected expenses.
The SAAS Business Model
With a simple SAAS model, you can create a solid set of numbers to accompany your business plan.
Of course, your plan and projections will not reflect future reality. In fact, that isn’t the main purpose of this exercise.
(Think about it: why would you bother to assemble and calculate these figures if they won’t even come close to your actual operational revenues and expenses?)
Financial models for startups don’t predict the future. You don’t know how well customers will enjoy your service, how much you will need to spend on unexpected expenses, and how much of the market share you will encompass.
Business (especially startup/entrepreneurial business) means risk.
By creating a financial model, you show your investors how well you understand the complexities of business management.
You prepare your accounting team for the continual effort of updating and expanding your business plan. A healthy business always has projections and estimates based on previous performance.
Startups must make do with a small amount of evidence; as your company grows, you’ll gather more historical data regarding all aspects of your business.
Even so, the market is always changing – just do your best to predict your financial future, build trust with stakeholders, and hang on for the ride of a lifetime!
Create a Startup Financial Model
Before you seek out investors for your startup, compile a simple spreadsheet that lays out the numbers behind your path to profitability.
Financial models for startups come in many forms, but don’t get overwhelmed searching for the perfect template. Simply pick one that comes close to your SAAS startup business plan and adjust as necessary.
Christoph Janz offers a generic template based on his experiences in the early days of Zendesk. If you’re developing a SAAS startup with a “soft touch” marketing approach, you can adopt this model with few (or no) alterations.
If you get most of your customers from organic and paid traffic, follow the steps listed below.
However, if your sales approach involves a hefty headcount, modify this template to account for this and other growth drivers.
The better you can estimate your company’s value throughout the various phases of its growth, the fewer nasty surprises you’ll likely encounter.
Step 1 – Separate Your Signups
Make a distinction between trackable signups (Facebook ads, Adwords, etc.) and others (word-of-mouth, branding, public relations, etc.).
When you pay for leads, you get hard numbers; however, not all of your new customers come from these easy-to-quantify avenues.
Adjust your financial model to include a category for each customer acquisition channel. Remember, you can base better projections on your internet marketing signups than on your other new customers.
Step 2 – Calculate Conversion Rates
Many SAAS companies offer 30-day free trials (and similar offers).
Make sure to log the number of people who convert into paid customers at the end of this time period.
You can calculate one conversion rate for your entire sales funnel; better yet, calculate your percentages for each customer acquisition channel.
Step 3 – Determine Your ARPA
Find your Average Revenues Per Account (ARPA) by dividing your total monthly or annual recurring revenue (MRR, ARR) by the number of paid customers you served during that time.
Also called Average Revenues Per User (ARPU), these figures can help you determine trendlines and average price points. Remember, create separate ARPA categories for “new” and “existing” accounts.
For example, if you changed your prices earlier this year, use this “new”/“existing” distinction to compare numbers from both price structures.
One caveat: ARPA numbers depend on context. A few massive accounts can skew your numbers and make you seem more profitable than you really are.
Likewise, a few accounts with very low revenue can make your ARPA figures look bad, even if you’re doing well.
Step 4 – Calculate Your Revenues
Once you know your ARPA, multiply this figure by your average number of customers per month (ACPM).
If you have a multi-level price structure, you may want to model this, as well. Remember, the time period from which you select your customer/account figures can dramatically affect your results.
For example, if you recently lowered your prices, you may see higher customer numbers. To maintain relevance, avoid mixing numbers from the current period with those from previous figures.
Step 5 – Figure in Your Expenses
Take a look at the suggested expense categories on your template and adjust them to suit your business.
Be realistic; remember to account for all expenses, not just those in your marketing and production funnels. When calculating monthly/annual employee costs, remember to use the full-time equivalent formula.
Consider keeping track of one-time startup expenses in a separate category. Remember, you only need one phone installation; not all of your telecom expenses will recur month to month.
Step 6 – Keep It Simple
When compiling financial models for startups, you can keep things basic – especially in the very early stages.
For now, you can assume your Earnings Before Interest and Taxes (EBIT) equals your operational cash flow.
Accountants call EBIT figures “operating profit” because these numbers reflect companies’ ability to generate profits – not their financing structures and tax environments.
Of course, as your company grows, you’ll attract investors and start calculating (and making) interest payments. As you become profitable and start paying income taxes, you’ll need to take these costs into account, as well.
Step 7 – Review Your Assumptions
Financial models for startups can sometimes include preposterous or downright silly suppositions.
For example, if you expect your revenues to grow year by year, take care to project rising costs in parallel with this growth.
As you scale up your business, you will experience some advantages due to size and market share; however, costs like customer service, HR, management, facilities, and more can crop up at odd intervals.
For example, say you sell catnip yo-yos to cat lovers.
If one production facility can handle 10,000 units per month, great. Just remember, this month’s yo-yo #10,001 will cost far more than usual. You’d have to open a second production facility to create this one yo-yo; your cost for 1 unit would equal the cost of the previous 10,000 yo-yos!
Of course, you would wait to open a second facility (or get appropriate financing and warehouse the excess units) until demand had risen to an appropriate level.
Use the marginal revenue formula to determine the right time to take the plunge and expand your operations.
Calculate SAAS Customer Churn
At some point in the early stages of your company’s growth, you’ll want to start tracking customer churn. This percentage equals the number of customers who cancel your services [∆C] over a certain interval [∆T] divided by the number of customers you had [C] at the beginning of this time period:
Customer Churn = ∆C / ∆T x C
Let’s say you had 1,000 customers [C] in your catnip-yo-yo-of-the-month club three months ago [∆T]. If 100 of these people have dropped out since [∆C], your customer churn for these three months is 3% (rounded down).
3% [Customer Churn] = 100 [∆C] / 3 months [∆T] x 1,000 [C]
Customer churn means you’re losing business; it’s the opposite of growth. Worse yet, the number of customers you lose on a regular basis will go up as your customer base increases. By looking at this figure as a percentage (not a number), you can make appropriate predictions and projections across months and years.
Compare Customer Churn and MRR Churn
MRR (monthly recurring revenue) churn differs from customer churn because it considers the amount of MRR lost due to cancellations and delinquent payments (instead of your numerical decrease in customers). This number can give you a better perspective on the true cost of churn.
For example, say you’re keeping a loyal base of customers at an entry-level price point but losing many of your premium customers. In this case, your MMR churn would surpass your customer churn.
The formula for MMR churn resembles its customer churn cousin. Simply replace your number of customers lost in a certain time period with the corresponding loss of MMR. MMR Churn equals the amount of MMR lost [∆M] over a certain time [∆T] divided by the MMR at the beginning of this period [M].
MMR Churn = ∆M / ∆T x M
Imagine you ran a two-tiered catnip-yo-yo-of-the-month club with both entry-level ($5/month) and premium ($20/month) customers.
Customer churn numbers won’t take into account the dramatic impact of losing a premium customer (instead of an entry-level one).
Instead of filtering through your data and calculating customer churn for both categories, you can unearth the same general knowledge with MMR churn.
Say you started with an MMR of $15,000 and lost $1,500 in MMR in one month. Your MMR Churn equals 10%:
10% [MMR Churn] = $1,500 [∆M] / 1 month [∆T] x $15,000 [M]
Savvy business owners and CFOs use MMR Churn numbers (not customer churn) to make the best possible projections.
Financial models for startups need the best accounting/microeconomics practices – for your business’ health, your reputation, and your investment prospects.
The Bottom Line
Luckily, churn calculations are only one factor in financial models for startups.
A growing company offsets its churn by increasing its customer base. Over time, your branding, customer service, and product quality will win you more loyal, lifetime customers.
The more of these factors you can properly estimate in your business plan, the better prepared you will be for the future – and those all-important investor meetings!
And in the meantime, remember to track your time with Toggl.