So you’re building a web start-up. You and your co-founder have spent every weekend for the last six months building your product and you’re just weeks from launch.
All that hard work is about to pay off, and you can’t wait to show the world what you have created.
It’s probably about now that you turn your hand to creating a predictive financial model.
This will be something you can use to estimate sales numbers, revenue, costs and the number of days remaining until early retirement.
Now, you’re not a complete idiot, so you know not to make your revenue line resemble a hockey stick too quickly.
But you also want to have this thing flipped and done with before next Christmas, right? Of course you do.
So the question becomes, how detailed should you make your financial model? Is it a few numbers on a scrap of paper that you can pull out of your wallet, or is it a 15-page spreadsheet with pivot tables and nested IF statements?
The answer is simple. It need only be detailed enough so that every assumption critical to the success of your business is reflected somewhere in the model.
The form it takes is up to you, but the heart of the exercise is in teasing out the assumptions inherent within your business.
The actual numbers that your model predicts are irrelevant, as your eventual results will look nothing like them. But the assumptions you use to get to those figures? Worth their weight in gold.
Let me illustrate this with an example.
Before launching our
events software and eventually raising venture capital, I built a predictive financial model in Excel.
We did what everyone does by including a line item for predicted revenue, as well as any associated costs, like this:
The problem with a model this simple is that it doesn’t tell a story about how you are earning the revenue.
What are the assumptions behind your revenue numbers? Let’s add in predicted customer numbers against each month’s revenue:
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