Sometimes I quite enjoy responding to questions posted on Quora.
The question was “what expenses can a startup avoid in the early stage ?”.
This one made me think about the challenges startups have as they are often cash constrained but may lacked the management experience to make the right decisions.
You may for example “feel” it is important to go to some conference to network or find investors but when you don’t have a clear goal for the event you may be spending on things that can come further down the line.
Here is my answer
Think of this question in a slightly different way.
All costs have a tradeoff in terms of risk, margin and capital efficiency.
What expenses you avoid, defer, or choose to do yourself is really all about how you design your business model.
After all when Virgin decided to do Virgin Mobile they decided to be a MVNO (Mobile Virtual Network Operator). They did not build a network, and decided to using an existing network and focus spending its cash on customer acquisition.Â
Similarly some online retailers act as virtual retailers because they use drop shipping and avoid the need for working capital for stock.
When Lyca Mobile entered the market, its route to distribution was to sell SIM cards and credits via shops (and give them a margin) rather then spend upfront cash on an expensive TV campaign like Vodaphone, 3 or O2.
It would be tempting to give quick answers like, don’t register for patents, or spend money on lawyers of accountants or offices.
The answer depends on the specifics, if you are developing new technology you may need to get a patent as your exit might be to sell your proprietary technology. If you have a complex set of partners or founder then a complex shareholder and vesting agreement may be important and if funding is dependant on tax breaks and grants then a good accountants advise might be more important at an early stage.
The key is to avoid making emotional or biased decisions. (Frugal and lean are trendy words can be very loaded and subjective terms )
There are three factors (to keep it simple) to consider.
- How do you maximise benefit by using a limited resource. (Your initial cash/funds).
One can never have too much money !!!! but a cash constraint makes you more careful and more creative and can help you develop a better product.
(Products are also a work in progress and continually evolve in the face of changing customer needs so factor this in. For example you don’t need to build v1 to as scalable as google might build their products and you may want to defer some decisions to a later build).
So take your budget (finite resource) and figure out the benefit or value that each purchase will bring. So for example make an initial marketing plan or product design considering all the options and the prioritise on the items which will give you the biggest bang for the buck.
Do you really need a large cloud/hosting service,
Do you need an office.
If intangible benefits can be quantified or valued by you all the better. Work out will the prestige of that fancy business card bring you business or will your customer or investor see that as a â€œvanityâ€ spend.
Do the maths.
After all you will do that for your marketing budget etc. If you use a cloud accounting service, vs an accountant or do it yourself you can work it out.
A zero based budged will focus you to either omit or delay unnecessary spend and potential increase your runway.
For example many of the A2A say don’t get an office, but it depends on what you need a space for, if your work requires large bespoke equipment then you need a secure premises and a location is not optional. If your team need to be co-located then you need a space, the question is what kind of lease is cash efficient, if you are building a prestige premium brand then you need a retail premises that fits with your target market.
Bear in mind cash flow vs cost are also different. A long term lease will work out cheaper but you may not have the resources to take out a long term lease.
Similarly consider risk in the equation.
Many times I have seen startups fail because they could not assess the risk of using a cheap supplier vs a more proven experienced provider and eventually their business folded due to these bad choices.
Risk needs to be an important consideration in making your choices
Many of today’s subscription based services as based on low upfront lists but more costly in the long run.
- What are the Trade-off between your finite time and your finite budget.
There are many things you can do, (e.g. Marketing, IT, Accounting,etc). For example You could make your own logo, get an agency to do it etc, what you have to work out is it better to save your time or get pay someone else to do it. If something has to be done, but someone else can do it then let them do it and focus on the tasks that can only be done by you.
This approach will get you to focus on doing things which only you can do. (You even have these choices in your personal life, do you pay someone to clean your house and trade that time to do something else)
- What is the impact of Time to market or Speed vs Cost.
If timing is more important, e.g. Being first to market or getting to revenue quickly then sometimes it is faster and better to spend the money and get to market quickly. The sooner you launch, the sooner you get revenue in. Remembers a dedicated team can build your product faster than freelancers or developers who are doing several jobs in parallel and your project may not get the priority it deserves.
For example when I worked on developing online clinical trials, speeding up the approval process was typically worth 1 billion per year so a faster clinical trial was worth the spend as it saved up to 1 year.
Therefore the best way to resolve this question, estimate your runway etc is to build a proper financial model, rather than just have a list of do and Dont expense categories. Take a holistic view of your business model/cost structure rather than a series of unconnected one off decisions
A proper impact analysis will therefore guide you to make the best choices/trade offs in terms of what and when to spend, make or buy, spend or don’t spend decision.
Hope you find this a useful framework to guide you in your decion making and prioritisation.
A parting thought is that with this model you will know what your burn rate is, what the length of your runway will be, when you expect to have your product ready, be cash generative and what kind of funding you should be looking for.