Having worked with over 100 startups in the last three years I’ve started to get a good idea of what elements go into creating a successful company, from a financial perspective at least. The one thing that always jumps out is that good companies take the time to prepare their financial projections. It may be the dullest task on any startup founders list when starting a business but it should be high on your priority list. And lean financials are a great place to start.

But why prepare financial projections at all?

The obvious answer might be that they’re needed to secure investment. And yes, that is one of the major reasons why startups need to put the numbers together. But financial projections should also be used earlier than that to ask yourself if you might even have a business to start with. I recently worked with a very early stage company who had dived straight in and prepared monthly financial projections for a five-year period. Without taking a step back to think about the fundamental building blocks of the model - the price you’ll sell your product or service for and all the cost associated with making and delivering it - the model becomes too complex, too early. This is where your “lean” financials should come in. Lean financials stem from the “Lean Startup methodology”, which adopts a “build, measure, learn” approach in which the startup continuously tests its assumptions. What this means is that you should always be challenging your basic financial assumptions and asking questions like “If I assume there are X number of customers my company can attract (my customer/user numbers assumptions), and I think I can charge them for the product/service (my revenue model assumptions), and it will cost me how much to make the product or to supply the service (my cost assumptions), can this really be a business?” And if you think the answer to this is yes, then more detailed financial projections should be prepared to track the actual performance of your company against how you think it will perform.

Let us assume that your lean financials give you an indication that you may have a viable business. You might decide that you need investment to get you started or to accelerate your growth. That might be bank finance, government support, venture capital or a combination of all of these. Whatever route you go, there’ll no doubt be an expectation that you prepare some detailed numbers for investors to look at. The amount of detail required will depend on who your audience is.

The least favourite task for most entrepreneurs

A startup’s main focus is generally on building a great product and getting those first customers on board. Financial projections often take a back seat. What might surprise readers is that investors, just like the founder, aren’t necessarily focused on how many customers the company will have in month 27 or what the company will be spending on advertising in 31 months time. Their main concern is that you’ve actually thought about the assumptions on which your financial projections are based. These assumptions include such as how much to charge, how many staff are needed to deliver the product, and what the cost of acquiring each customer is. Taking that a step further, financial projections, dull though they may appear, allow the founders to demonstrate that they have considered what the impact of any changes to these assumptions will mean for the business. For example, “if sales are only 50% of what I expect them to be, what does this mean for the cash requirement for my business over the next 12-18 months? And what would this mean for staff numbers?” Having the ability to stress the assumptions in financial projections is key.

Preparing detailed financial projections is a necessary part of building a business, both for internal performance monitoring and to attract investment. Lean financials should be the starting point. The more time you spend on thinking about your assumptions at the start the better the output at the end will be. Building a profit and loss account or cash flow statement should not to be the only goal in the process. Being able to see what effect any changes to the assumptions will have on the business should really be of equal importance.