By Ryan Allis, CEO of Connect
When you hear the term business plan, you might visualize a 40 page document, full of dense paragraphs, charts, and diagrams. Today, in fact, most business plans are not such in-depth documents. Business plans today often to come in the form of slide decks or shorter 10 page executive summaries.
Too many people get stuck in analysis paralysis and will spend 6 months building a business plan before they even get started. It’s much better to just start testing a number of things before you spend much time on a plan.
You’re better off incorporating, printing up some business cards, getting a website going, and starting to work on creating a prototype for a minimum viable product (or MVP).
Business ideas really are a dime a dozen. There’s nothing that special about most ideas. What really matters is the operational execution, the ability to actually make it happen, and the quality of the team of people involved.
That said, when you’re ready to scale your idea or raise funding, you’ll need at least a basic pitch deck and financial plan. Going through a lightweight planning process before you start building like the one described in this section is usually worthwhile for making sure your startup doesn’t run out of money before you get your product launched and to cash flow positive.
Business plans usually have sections on the team, the problem your business is trying to solve, how you plan to address that problem, the market and competition, how you plan to make money; and financial projections (called a pro forma or advanced projection) for the next 3-5 years.
The Sections of Your Plan
1. The Team. When you write the section on your team, you should highlight not only the people who are involved in the day-to-day running of the company, but also the advisors and the mentors around the team. People are everything in a business. Most good investors would tell you that they’d rather invest in an A team with a B business idea than an A business idea with a B team.
2. The Problem. Describe the problem you’re trying to solve and show evidence of the demand for this solution.It’s important to clearly illustrate that you understand what the problem is, you have a clear plan to go about solving it, and you know for whom you are solving this problem. Demonstrating that you know your target market is critical.
3. The Product. This is where a lot of entrepreneurs get stuck. They’ll talk about a product that might exist someday in the future, but they don’t have anything to show. If you can go to an investor with a prototype that makes it easily visualized—even if it’s just wireframes, mockups, or a 3-D printed version of your future product—you will get much further with those investors. In the product section, you also want to share your timeline for product creation and any key milestones that may be coming up toward initial product delivery, as well as discuss future products that might be applicable to the target market and services you can provide as an add-on or up-sell to increase your average revenue per customer.
4. The Market. In the section on market, you need to be able to talk about your suppliers and how you’re going to source the parts or components that are necessary to create your digital or tangible product. You should include information on the challenges that you’ll face in getting there and the barriers to entry within that market, whether it be capital or knowledge. You should also be able to talk about the relative intellectual property field and what patents are out there within your sector. Seek out some analyst reports to approximate market size, and discuss what stage your market has reached in its evolution. Is this a 10-year-old market, a 1-year-old market, or a 100-year-old market? How will you end up beating your competitors? Who are those competitors, and who are potential partners—companies that you might be able to work together with to advance the solution you’re trying to bring to the world?
5. Your Financial Model. This section is about how you’re going to make money. A lot of companies in California struggle with figuring out their revenue model. There’s a sense that if you build it and get users, you’ll be able to raise money. And if you can raise money, you can scale and then figure out the revenue model later. That’s fine, but I find that being able to understand the revenue model (at least the intentional revenue model) before you begin raising and spending millions of dollars building out the company is worthwhile.
Key Questions To Address in Your Lightweight Startup Plan
When building your plan, you’ll want to talk about your market and whether you’re selling business to business (B2B) or business to consumer (B2C). You’ll want to talk about how you will sell, and through what distribution channels. Are you going to sell your product at wholesale to stores? Are you going to sell your product directly online at a retail price? Is it going to be a digital download? Is it going to be a physical product? Are you going to ship? Are you only going to sell in bulk or sell individually?
One of the most important questions to consider is: Does your product generate revenue once or does the product provide recurring revenue to your business (effectively, a subscription where you can put customers on auto-bill)? I have found, with companies like iContact, that if you can create a recurring revenue model, you can more easily and more smoothly grow your revenue.
You also need to show your user growth assumptions and your customer growth assumptions. And you want to define your unit costs—how much it costs you to produce one unit of your product. This cost can vary depending on the volume you produce. If you were just producing one, for example, it might cost $50,000, but if you were at scale and producing 10,000, it might only cost at $1,000 to produce one unit of your product.
Once you’ve shown unit cost, then you want to show unit revenue, which is how much you’ll charge for that product. If you’re charging $5,000 for a product that costs $1,000 to make at scale, there might be a great opportunity to build a profitable company.
In your financial projections, which are often the weakest section of an investor pitch (and, I think, besides the team, one of the most important), you’ll want to show your revenue assumptions—not just the results of those assumptions, but the assumptions themselves. You need to expose your cost assumptions and your expense assumptions. You should project revenue by month for at least the first 36 (if not, the first 60) months. And, of course, revenue amount minus cost is net income, so you’ll be able to show your net income by month. Then you’ll show the number of months it will take you to break even. Break even is defined as the point at which you’re making more money than you’re spending (in other words, your net income is positive). It is at the point at which you begin to break even that your aggregate amount of net loss starts to go down.
You’ll also need to talk through how much money you need to raise to reach the next milestone. In the upcoming sections of this book, I’ll be talking about raising capital and how you can do a lot on just a little bit of money. You’ll also want to talk about the total expected funds needed to get to your company to cash flow break even.
Here’s an example of a 5-year (60-month) pro forma P&L projection:
In green you have revenue, in red you have your expenses, and in black you have aggregate (or total) net income. For the first few years of a venture-backed company, you’re probably going to have more expenses (in red) than revenue (in blue). That’s okay. That’s the time you’re investing.
The green (aggregate net income) is simply the aggregate delta (the sum) in the amount of net loss. Of course, the opposite of net income is net loss. In this example, the aggregate net loss in about month 27 is at a low point of about $2.4 million. If this was your projection, you might want to raise more than $2.5 million to ensure you have enough money get through the first couple of years and get to cash flow break even and have some cushion just in case your assumptions are wrong.
If there’s one thing about assumptions that’s true, it’s that they’re always wrong. A lot of people will tell you to raise at least twice as much as you believe it will take you to get to net income (profitability). But you don’t have to do that all at once, as we’ll discuss in the later section on raising capital.
Eventually, the green line begins to go above the red line, your revenue becomes more than your expenses, and your aggregate net income starts to go up until you reach the point where your overall retained earnings for the company start to be positive. At this point and going forward, you have a profitable company. And when you have a profitable company, you have a valuable company.
Below is an example of a venture-backed company startup projected profit and loss, otherwise known as the income statement projection. You’ll need to include something like this in your pitch deck in order to satisfy the questions of your investors.
Startup Plan Checklist
Your startup plan should address these questions:
- Who’s on your team?
- What’s their background?
- What is the need for the product?
- How will the product be priced?
- What is the size of the market?
- Is the market ready for this product?
- What will it cost to produce the product?
- What is the total startup cost?
You’ll also need to be able to answer:
- How much is needed in total to reach break even?
- Will you need to acquire any patent licenses or intellectual property?
- Who is your target customer?
- What roles are you going to need to fill in the future?
- What are your future products?
- What are your annual revenue projections?
- What are your annual cost projections?
- What are your annual profit projections?
The answers to these questions are critical to your plan and your pitch deck. Fortunately, you no longer need a 40, 50 or 60-page business plan in order to raise capital, but you do need more than a napkin. A 10-20 slide deck, with perhaps some additional slides in case someone wants further information, will greatly increase your chance of raising capital and funding your business.
Incorporating Your Startup
Now that you have a plan, it’s time to become official. It’s time to incorporate. There are many benefits to incorporating, including much lower taxes, liability protection, being taken seriously, being able to get an employer identification number (EIN) and a bank account, and being able to hire employees, raise investment, and gain corporate credit.
Here’s why it will lower your tax bill: Companies pay taxes on their net income (in other words, the difference between their revenues and expenses). Individuals generally pay taxes on their total income, minus a few deductions that are available from the IRS.
If you’re an individual who make $50,000 in annual salary, you’re going to pay taxes on that full $50,000, whereas if you’re a company that earns $50,000 in revenue and you have $48,000 in expenses, then in this simplified example, you’d only pay taxes on that $2,000 of net profit. You pay significantly lower taxes by working through an incorporated entity.
To incorporate, you only need to know a few things:
- the name of the company
- the state in which you wish to incorporate
- the number of shares to create (which really doesn’t matter all that much)
- the initial ownership of those shares
If you know that you want to incorporate, for example, Connect Research Corporation as a Delaware C-Corporation, you want to create ten million shares at the beginning, and you know which initial cofounders and employees will get what percentage, you’re good to go.
The major places to incorporate are online sites like Legal Zoom or Incorporate.com, or any corporate law firm. I would encourage you to use a corporate law firm. It will usually cost between $2,000-$4,000, compared to the online services which are $300-$400, but you’ll often get a lot of other services as well, such as template documents you can use for employment contracts and confidentiality agreements. And the law firm will make sure you do it right.
In the United States, there are four major types of companies you can start. You can start an S-corp, a C-corp, an LLC, or a benefit corp. There are a number of states now (California included) in which a benefit corp is a separate type of legally recognized corporate entity in which you have to amend your charter to recognize the perspectives and desires of all stakeholders, not just those who are shareholders. It’s an interesting way of balancing the impact on the community, the customer, the employees, and your shareholders as you create long-term shareholder value.
In the U.S., a C-corp is the most common for companies that are trying to raise outside venture capital. If you plan on raising outside venture capital, being a Delaware C-corp is probably what your attorney will end up advising.
In choosing a law firm, you want to look up their reputation and references, their startup experience, their ability to introduce you to potential investors, and any experience they have with taking companies all the way from a startup into an initial public offering on the New York stock exchange or NASDAQ. Most important is your ability to communicate and connect with the partner who is going to be handling your account, as well as the associate partner who might do a lot of the heavy lifting.
Once you’re incorporated, you’ll receive your Articles of Incorporation, your set of bylaws, and your set of stock certificates. Then, you’re official. Once you get your Articles of Incorporation, you can apply for an EIN from the IRS. Then you can open a bank account and start legally operating your incorporated business.