The Importance of Early-Stage Startup Revenue Projections

NOVEMBER 9TH, 2018

At Brightstone we do a lot of work supporting our portfolio companies in financial budgeting and modeling. At our firm, we believe that startups should be run using a metric-based approach, and we're constantly monitoring our portfolio companies' metrics. The metrics range from standard fare, such as Customer Acquisition Cost (CAC) and Life Time Value (LTV) to more company-specific, like Ratio of Daily Active Users to Monthly Active Users and Penetration of the VR HMD Addressable Market.

One metric we monitor with almost every portfolio company is its ability to track against its revenue projections. We spend a lot of time with portfolio companies on the front end of this process thinking through projections. This exercise is extremely important because it forces a thoughtful detailed analysis of pricing, revenue models, contract length, churn rates, promotions/discounts, etc. While some may dismiss robust financial modeling at an early stage, we feel (and have observed) that it’s an essential step in the infancy of a company.

We like to base our near-term revenue projections on the company's pipeline of future deals. The forecast looks at the number of deals in the pipeline, a weighted likelihood of closing, and the value of each deal. This works very well for forecasting near future revenue of B2B SaaS companies and most of our Life Science portfolio.

While using a pipeline is a reasonable approach to revenue projections, it becomes very hard to quantitatively answer questions that will arise, such as, “What would happen if you hired three more salespeople?” and it's less applicable to consumer technology portfolio companies. In these cases, we develop dynamic forecasts. We consider things like the average sales cycle, the ramp-up rate of a salesperson, and the revenue a typical salesperson generate and growth of contract value over time for B2B SaaS and Life Science companies, and things like CAC, marketing efficiency ratio, acquisition channels, and ad spend budget for consumer technology companies. Once determined, these forecast assumptions should also be used as benchmarks to gauge performance. Assumptions will always need to be adjusted, but it's important to use and enforce them as performance benchmarks to ensure the company scales according to plan.

At a minimum, this process forces the management team of the company to think about the operations of their business in a holistic manner. The process connects the dots between the operations of the business and its financial success. This is the fundamental value-add of financial modeling for early stage companies. What we have achieved here is the identification of a number of factors that influence this company’s revenue. Ideally, this process gives the company sight into every key metric that will allow its business to succeed from a revenue standpoint and have clarity on the metrics it should be tracking.

At Brightstone, we consider ourselves active investors and offer hands-on support to help our founders succeed. Consequently, the reason we mandate that our portfolio companies share their KPIs with us every quarter is so that we can help where help is needed. The role of a passive investor is to contribute capital and watch you grow; the role of an active investor is to contribute capital and help you grow.