Go fund yourself: The power of working capital for start-ups
For years now, the largest corporations in the world have been looking to extract as much efficiency out of the way they manage their cash so they can use that cash to self-fund new investments.
In fact, this is such a massively important source of funding for large companies that there is a huge banking industry that exists to support it that is almost completely overshadowed by investment banking and trading desks.
But somehow these cash management strategies are virtually unheard of in start-up circles. All of the talks seems to revolve around venture capital and equity funding. And with this comes a huge interest in valuations and creating models to calculate them.
Nobody talks about optimizing the cash-flow of your start-up. But if you really understand this and do get it right, you might not need any outside investment at all.
Let’s start with a quick lesson on what is referred to in finance and accounting as working capital.
Working capital is not complicated, it is basically just the funds that you need in order to run your business on a day to day basis.
It is essentially a combination of these three things:
Think of it as a cycle that looks like this:
His working capital cycle is really important because this is where you will spend all of your cash: creating your product and trying to sell that product. And this is also where you will earn your cash back by collecting cash from sales. (hopefully with some profit on top)
Notice that venture capital is nowhere in this cycle!
Venture capital and debt funding only come into the picture to plug holes in this cycle.
Here are a couple of situations where that might actually be necessary:
But here’s the thing — most of us are not building the next Uber that needs to blitz the world before somebody else beats them to it just to turn a profit.
The vast majority of people are looking to scale up in a relatively lean way, testing their assumptions as they go and looking to earn a profit as soon as possible.
And if you are building something sustainable from the ground-up like this, you shouldn’t even be wasting your time thinking about venture capital or valuations.
You should be focusing on getting your working capital cycle right so you never need any outside funding at all.
So how can you actually go about doing this?
Think back to the cycle, you essentially have three important activities at the core of your business:
Traditionally, businesses would follow this order as they would have to buy big batches of raw materials, turn those materials into a finished product, and then finally sell them to the end customer.
With products like cars or washing machines, this whole process takes a long time and you need lots of funding to cover costs while you wait to be paid. But that’s not the way it has to work anymore!
With digital products and even many simple physical products, you can actually turn this cycle upside down:
The key to all of this is that you should aim to hold onto your cash longer and get paid quicker.
That is the bottom line.
Always remember this cycle and think about how you can structure your business so that you are the one who is holding onto the cash.
Whether or not you have some kind of loan or equity financing that got this cycle started doesn’t really matter all that much — the real action in your company is in producing and selling your products and optimizing the working capital cycle that goes along with it.
And if you get this right, you can minimize the amount of outside cash that you have to put into your business or hopefully even go fund yourself!
Go fund yourself: The power of working capital for start-ups
Research & References of Go fund yourself: The power of working capital for start-ups|A&C Accounting And Tax Services
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