text: TL;DR: Questions to ask an entrepreneur on the financial questions venture capital investors will ask founders when fundraising. Read so you don’t get surprised
  This is the fourth part of a series of venture capital startup interview questions, on fundraising financial questions We cover almost every question an investor will ask you when you are pitching to raise money, so you are totally prepared.
  Unlike resources on the internet that just provide a few questions, this resource is unique as:
  We provide the insight into what the questions actually mean (They can be sneaky)
  Almost all the questions you will be asked, rather than just a few indicative ones
  Examples of what to actually say!
  This instalment is on your fundraising financial questions. There is no way in hiding from these investor questions! You are guaranteed to be asked most of them. The tough thing is this area is not simple and you simply have to dedicate time to have a good answer. It’s only resources like this or the alternative of learning the hard way that you will learn how to answer! Learning by failure is for dummies. If you read all of these and do your homework, you should be able to deal with every curveball thrown at you!
  We need feedback to make this as useful as possible. If there are any questions we may have missed or improvements to answers, sound off in the comments so this can get better for all founders, and even investors looking to build up their knowledge.
  If you want to get updates on each instalment and to get a PDF version of the deal questions, download the PDF here, and I’ll email you when the new questions are up for you to be a total pitching pro.
  Download the fundraising deal questions to ask an entrepreneur and get updates on new Q&A
  Financial questions
  Question: What is your burn rate?
  What they mean
  This means ‘how much money are you spending per month‘? Literally, how much cash are you burning?
  It is implied by this question that you need to respond monthly.
  There are two types of burn rate: gross and net. Gross is your straight up spend. Net deducts your revenue so it’s how much you are losing. Gross is the safer number to plan on since you can’t guarantee revenue.
  Let’s do some math so you really get this.
  Your gross burn is the amount of money you are spending per month, going out of your bank account. So if your costs are $100k per month then your gross burn is $100k.
  Net burn is the amount of money you are losing per month so you net off your revenue. If your revenue is $20k per month then your net burn is $80k (100k in spend less the 20k of revenue).
  Why do investors care about your burn and why is it such a common question?
  In short, it tells you how long you have to live! If you have just raised and you have $1 million in your bank account with a net burn of $100k per month you have 10 months of cash in the bank left assuming your burn stays constant. However, if you went on a hiring rampage and you’re burning $500,000 per month then you only have 2 months of cash left. Shite.
  The months left to live is called your runway. Your runway matters as it signals if you are about to run out of business, when you will need to raise again and approximately how much (Say 18 months times your runway). If you have a short runway it also tells investors who have the leverage… If you have a month or two left, then things are getting hairy and the investor can set the terms.
  Furthermore, your burn can be telling about your operating model, hustle and founder mentality. If you’re achieving a lot with a small amount, it is very impressive! If you have a huge burn rate they will wonder what the hell you are doing if your revenue is negligible!
  The next question someone might as is how many staff do you have. If you have a lot of staff and small burn, they might respond “wow, that’s impressive!” If not, they might wonder if the team is treating investor cash as a way to bank some cheddar.
  What you need to say
  “Our gross burn rate is $60k per month. On a net basis, it is $40k. Considering we are doing $240,000 run rate after 7 months, it’s not too bad right!
  Post the round, we plan on taking this up to $120 gross in order to build out of engineers to strengthen our product functionality customers have been asking for, which with our targeted raise would give us 18 months runway at that run rate.”
  Question: How will your burn rate increase after the round?
  What they mean
  We talked about burn rate. It’s how much you’re spending each month. But now you are raising again and likely for a lot more money than you raised before with the expectation you are going to grow a lot faster. Growth comes at a cost.
  As you execute new strategies and scale channels, everything from marketing to customer success will scale up. This means burn will increase. Thi means you need to have a plan for the money you are asking for.
  A prudent CEO will think about the burn rate constantly. Once they raise the money they are not having a Champagne party, hiring their girlfriends on 6 figure salaries and leasing them cars (This actually happens).
  Funnily enough, there is a rule of 18 months. It says that no matter how much you raise, founders will find a way to blow it 18 months.
  You need to be thinking about how you are going to manage and grow your business. Yes, it can feel like there is cash burning a hole in your pocket, dying to be spent, and many founders fall for that temptation (encouraged by investors), but you need to know when is right to spend and when you should save.
  How will your burn affect your runway? Is it sufficient to help you hit your defined milestones for the next round?
  Do you really need to double burn the moment you close? Have you done all the prep work for key hiring decisions for that to make sense?
  If you fumble to come up with a number, you have not been thinking about your financial plan in enough detail.
  The best answer will probably break it up into phases since you will not bring up your burn rate to the max immediately (Well you shouldn’t anyway). You should also be outcome orientated, spend should be thought in terms of outomes. And it will likely be conditional on things coming to pass. It’s all very well to think things will go to plan, so long as you have a downside and upside plan.
  What you need to say
  “My plan is to hire department heads first so that they can build out their own teams. It will take them some time to acclimate to our company and to start recruiting key members of the team. I want to scale up our lead generation, so I will focus on building our marketing team first. We have two salespeople who need more leads. Once it looks like this engine is working, the next focus will be the VP of Sales who will build out the team. In the next 12 months as we scale our teams from 2 marketing people to 8 and the sales team to 7. We also have key product to ship, so we are looking for a lead engineer after this but will be hiring a front end and back end engineer in the next 3 months.
  Until this happens we will not be ramping up our marketing spend. Our burn rate will stay relatively similar to what it is now for the next four months.
  From then on we will take it from $60K up to around $120k pm. If we see a lot of traction, we may push more heavily on marketing. In any case, we will ensure we get a full 8 months of execution before having to go back to investors and 6 months to ensure we get it done. If we can’t scale our leads from marketing like we think, we will slow things down till we do as our CAC is really critical.”
  Question: What KPI are you focused on?
  What they mean
  KPIs are Key Performance Indicators. They are what you focus on to indicate the viability and potential of your company. You need to identify them, track them and act on them religiously. If you have no clue, check out the free OKR, KPI and PPP tracker to collaborate with your team.
  When you are asked this, the investor not only wants to understand what your numbers actually are but how you think and what you focus on.
  The KPI of your company will depend on the industry that you’re in and the stage of your evolution. Whilst everyone will have slightly different numbers they focus on, there are a lot of commonalities. Focusing on esoteric numbers, aka the wrong ones, may raise questions.
  Listen to what they said. They have asked you what you are FOCUSED on. You are not to pull out a dashboard of 200 numbers. Give them the 3 to 5 key numbers that you are actually tracking daily. Examples of these could be sign-ups, revenue, growth rates, retention, referral rates. You should know what these are already, or you should not be raising. The earlier the stage you are the more top of the funnel you are likely to be focused on. The later stage the company you will be focused at the bottom of the funnel and then holistically be optimising it all.
  A focus is really important. If you track a lot of numbers and you feel they are all important, don’t tell them that. Answer their question about how you think they want to hear it.
  You’re going to have to say what those KPI actually are, so you better know the numbers off by heart and be able to explain the evolution of them. You should also know the implications of those numbers the interdependencies.
  What you need to say
  “We recently changed the KPI that we focus on since we are moving to scaling, rather than identifying product-market fit.
  The ones we discuss daily, weekly and monthly are the following three:
  1/ 30-day customer retention,
  2/ sign-up growth rate, and
  3/ referral rates.
  We picked these as we are heavily focused on retaining and getting our customers to refer us. Of course, we track the NPS through exit polls, and periodic in-app pop-ups, but this is a secondary KPI to us.
  Now, I’d be happy to talk to you about these 3 KPI and how they have been evolving over the past 12 months.”
  Question: If you could pick only one non-financial metric to measure the success of the business, what would it be?
  What they mean
  This isn’t a silly question. This is a “thinking man’s question”.
  How your response to this question can be telling. Revenues and profits are a great, fundamental way to measure the success of your start-up, so asking for financial metrics will not elicit anything insightful.
  This question instead is more interesting. What you focus on for your non-financial metrics can be very revealing as it shows what do you care about. If you were to say the amount of PR you personally get, then you are an egotistical tosser ;). Answers which are customer-centric are safe. Depending on your business, you might pick something product related?
  If you are a gaming company, you might think about time in app. If you are a direct to consumer brand, then it could be NPS.
  The key point here is not the numbers, per se. It the story you are going to tell around that number; why did you pick it, how is it evolving, how staff act on that number etc.
  If a question sounds a little tricky, it’s totally a test. Pause and think ‘why is she asking this?’ What does she want to hear? Don’t just let words fall out of your mouth. Remember you are selling.
  What you need to say
  “Without a doubt it is NPS. To have a high NPS requires us to do so many things right. And success is not one thing, it is 2,000 little things that you pay attention to and get right; those little things are the experience the customers have.
  We could drive ourselves crazy thinking about each one of them, and tracking them, or we could just see how much a customer love us, or not, post hoc!
  We constantly ask this question whenever we are not sure about the outcome of a course of action. “Will this increase our NPS or not? If it will do it. If not, well then we should focus on something else.
  We give staff a lot of decision making freedom. The only justification they need to offer is “I thought this would drive NPS.”
  Question: Walk us through the fully burdened unit economics of your product or service?
  What they mean
  You make money from customers over time. You spend money over time to acquire customers. How much profit (or loss) will each customer generate?
  There is a joke in the Valley “we lose money on every sale, but make it up in volume.” You have positive unit economics when you make money on every sale.
  There are two implications of this question. Firstly do you know your business, and secondly, what does your business look like when it grows up?
  So dealing with the first part, this is a pretty tough question if you do not know your business well! For a SaaS company, this would include fully burdened CAC, salesperson compensation, expected lifetime revenues, churn, expansion, upsell, etc.
  You are looking to show that 1/ the unit economics are positive, ideally sexy, and 2/ you know your ass from your elbow, AKA does the CEO understand his business and can he communicate it?
  Now, for the second part. Financial statements and metrics illustrate what a company looks like historically and presently. You hire staff, you get AWS, you pay for an office and all the other line items in a PL/BS. These things can’t illuminate the future, it just shows what an unprofitable startup looks like. So if you can express your unit economics well, such as that you make more money from a customer than it costs to acquire and service, if you spend more money and scale, you can get an idea what you look like grown up and after you have broken even. To understand you as something desirable to acquirers, you have to understand what you look like sub-scale. Otherwise, you are just more of not very pretty.
  What you need to say
  In the words of a founder of Redfin:
  “For us, this meant explaining what Redfin made this summer on a single home purchase, with a per-transaction account of what we spent on marketing to get customers ($27), on local data ($153), on customer service ($2,906) and so on. We also calculated how much annual revenue we got for every monthly unique visitor.
  We knew our margin before but hadn’t broken the numbers down into their most easily handled form. This is important. Numbers are just numbers if they aren’t simple enough to act on; a linebacker with a simple playbook can react rather than think during the game. Knowing that the big number is how much we spend on our customer-service team refocused us on making sure we hired the right team and invested in its happiness.”
  Question: When will you be profitable?
  What they mean
  It is expected that a startup will be profitable at some point. So when will it happen to you?
  This is a loaded question. Where do you start?
  Laughing out loud and smacking the table with your hand is not the way to deal with this.
  The ideal answer would be based on demonstrating optionality and the trade-off between growth and profitability. For many companies, you can choose to get profitable, but it comes at the expense of growth.
  You could assert that your key focus is to grow to a point of scale at which point you have the option to continue scaling or to focus on profitability. That’s a nice place to be since you are not dependant on the investment climate for your survival.
  Remember that, privately at least, VCs only care about growth. If you can keep growing, they want you to keep raising and getting really big. However, if the investment environment gets negative, they will expect you to magically rear in costs and get profitable so you don’t die!
  There are two examples of this I can remember.
  In 2015, Bill Gurley of Benchmark warned startup unicorns to prepare for leaner times. We tweeted:
  “We may be nearing the end of a cycle where growth is valued more than profitability. It could be at an inflection point.”
  In 2008, Sequoia’s wrote a 56 slide doomesday presentation etitled “R.I.P Good Times.” The core message? Spend every dollar as though it were their last.
  Now, this question is something more traditional investors would ask. By that, I mean anyone who doesn’t understand tech. Most VCs would never ask this to an early-stage company. If you get asked this by a traditional investor you might need to explain how the game works. Which can kill a deal, but at least you won’t get stuck with someone who pushes you to act in a way you don’t like.
  What you need to say
  “At present we are subscale. There is no way for us to be profitable until we have approximately 1,500 customers and an adjusted cost base.
  Once we have reached this customer milestone we have an option between scaling up to a significant company or focusing on profitability. Naturally, there are consequences to our valuation and exit options.
  Once we have better insight into our payback period and LTV, we should be able to have a clear line of sight on what it would take to become profitable. This would give us the option to be profitable if the investment climate was negative. I believe it would take us two years to be profitable if we took that route.
  Let’s be clear, we’re gunning for a large exit, not a small one. Can we make sure we are on the same page of the scale of business we want to build, to avoid any surprises in future? I think this is important.”
  Question: Are you focused on growth or profitability?
  What they mean
  This is the same question we just went through on ‘When will you be profitable?” but phrased differently.
  Frankly, this is something a smarter investor would ask and at the later stages. When you will be profitable is something a neophyte, traditional investor, playing tech investor would ask.
  If you’re talking to American investors it’s more likely that they want you to focus on growth. Growth is what investors care about. If you respond to profitability, they may wonder if you really are a venture-capital type business and founder.
  I wouldn’t’ ridicule the notion of being profitable. Being ‘profitable’ means you are default alive rather than default dead. Default dead means you are dependent on investors. Default alive gives you negotiating leverage.
  The simple answer to this question is ‘growth.’
  Why does growth matter so much? Well, more growth means a bigger company. VCs need big exits for their business model to work.
  I’m going to explain two useful heuristics that apply to SaaS companies:
  3T2D – This means you TRIPLE for three years and DOUBLE for two years once you are about $1m in revenue
  Rule of 40% – This means at scale you add up your bottom line margin (Negative) and your top line growth (Positive). If they add up to 40% you are good. So you can break even if you grow 40%
  Investors want you to be at least $10m ARR. So check out how the numbers work if we grow ‘according to plan’ starting on a base of $1m. Be amazed by the power of high growth and compounding.
  Year Revenue Growth Rule
  2018 1
  2019 3 300% T
  2020 9 300% T
  2021 27 300% T
  2022 54 200% D
  2023 108 200% D
  2024 151 40% Rule of 40%
  2025 212 40% Rule of 40%
  What you need to say
  “We are trying to build a real business with fundamentals, but we are aware that we are building a venture capital funded business. I have studied how analysts value publicly traded companies too, and it is clear that the highest r2 is growth.
  So our focus is on growth, but being frugal where we can. Bezos has shown that margin is an opportunity. Being able to get profitability if we need to is something that we have to consider, of course. We want to stay the course and being able to flip to profitability would give us great optionality if the landscape changes. The key milestone we are gunning for is $100m ARR in 5-6 years.”
  Question: How can you reduce your break-even rate point up 6 months in your plan?
  What they mean
  Insert groan. Tricksy little Hobbit.
  Quick primer. The break even point is the point at which you are just getting to profitability. You have covered all your (current) fixed costs and are now covering your variable costs.
  So if you have it in your plan you are starting at a particular month you are going to get to break even. There are simply put, two ways to bring your BEP point closer:
  Spend less money
  Make more money
  There are a lot of trade-offs though. If you cut your marketing spend, you will make less revenue in the future. Cutting paid spend could mean you are not making use of your fixed marketing costs (staff) so your fully burdened CAC will go up.
  This the most devious question I have read. Some famous VC likes to ask it (Bill Gurley or someone). This is grade-A hard if you don’t know your numbers.
  You can’t answer if you don’t really know your model and all the drivers of your business. What can I say other than you need to know your stuff, or get your CFO to help you! Don’t just look and say, “Um, Jim!”
  Do some quick, logical thinking. What are the key drivers of your business? It’s going to be around revenue, growth and cost, right? So what’s the derivation from those three points? List what they are, how they can change and what you would do if you had to make a move to profitability.
  A great answer would be quantitative and revolve around the number of customers you would need.
  What you need to say
  “The basics of any business are revenue and it’s COGS, expenses to maintain the current client base and the costs invested to grow. To bring our break-even point closer means we either need to make more revenue or spend less which impacts our growth. Marketing spend impacts growth revenue and the variable component of our cost base, so that’s a delicate balance.
  Given that we break even on customers in six months and then start generating profits on them, we will have to make this decision a year in advance. Decreasing marketing a year earlier would prove profitable cohorts. We could also be more judicious in customer targeting.
  Making these changes would involve a change in our business model and our go to market plan, but it would be possible. We just wouldn’t hit our revenue targets.”
  Question: How large is your ESOP pool?
  What they mean
  ESOP is short for Employee Share Ownership Plan. It’s a pool of options you reserve to issue to employees. Before every round of finance you raise, investors will ask you to either create an ESOP (your first round) or increase that pool.
  At Series-A and beyond, you will be required to have an ESOP. This will vary between 10-15%. If you want to learn more about ESOP, then I have the most material on the internet. It’s not simple but you can learn. I also have a training course. If you want to learn more you should read a couple of blogs.
  How does startup dilution for founders work with ESOPs and investment
  ESOP training course
  VCs know that your team is all that matters and that you will need to issue equity to attract and retain them. VCs also don’t really want to get diluted to create one.
  The ESOP comes out of the pre-money, meaning you the founders and previous investors are the ones getting diluted. You want to make an ESOP only as large as you need to get to the next round.
  If you don’t have an ESOP, or it is very small, they will just tell you how large they expect it to be in the term sheet. The way you manage this is through making a hiring plan and being forward about it to control the narrative.
  When VCs ask this question, they are trying to figure out how large they need to tell you to make the ESOP before they will invest.
  What you need to say
  “We set up an ESOP of 10% in the last round. We have issued staff 2%, so there is 8% left. According to our hiring plan in this round, we will need to give 6% to staff, so our ESOP has us covered already. We checked some comps and this seems in line with the market.”
  Question: What percentage of the company’s equity do the employees and founders currently own?
  What they mean
  This is sort of the same thing as asking how large your ESOP is, but they are also asking how much the founders own so it’s a more holistic question of relative ownership.
  The investors may be worried you have a ‘fucked cap table’. Your cap table is fucked when you took on too much dilution in previous rounds.
  Let’s skip the ESOP part for now. How much the founders own is really important, since investors want them to be motivated to make a lot of money. If the founders do not make money then the investors will not make money. Simple equation!
  However, since there’ll be future rounds of investment, there will also be future rounds of dilution. Dilution means the founders own less. Investors know that a typical VC funded company may have 3-5 additional rounds of financing depending on what stage you are, so you can do simple math to see what the future will look like. If your cap table is fucked, then they may require a ‘recap’ to be done, which is where someone is going to be losing equity (ie early stage investors).
  If after an angel round, the angels’ already own 40% then the founders have 60%. A successful company may have 5 rounds of dilution at about 10-20% per round. That 40% the angels got is bad news. I have seen seed stage investors tell the angels there is no deal happening unless there is a recap.
  The other part is the amount staff own which is through an ESOP. VCs want there to be a large enough pool to attract and retain staff.
  You should read these to learn more:
  Founder Control and Value Creation in Startups don’t seem to be the same thing
  A meaningful founder exit is not the same thing for venture capital
  What you need to say
  “We have done two rounds of funding so far. We are doing our A now. The founders own 60% and the ESOP is 10%, of which 3% has been issued. Pretty standard.”
  Question: What ESOP is left?
  What they mean
  This is a rose by any other name to two questions we have covered. I’m just covering it so you are totally covered.
  Investors want to know how big of an ESOP they need to ask you to swallow before they invest.
  What does ‘left’ mean? It assumes you have reserved a pool of shares for staff and over the past year or so you have hired more people, or issue more options for staff. So literally how much of the pool is left to allocate?
  If the amount ‘left’ is not adequate you are going to have to create a larger pool. This will be done before investors invest so that the new investors are not diluted.
  You do not want to have a larger pool than you need till your next round of financing (say 18 months). Why? Because your valuation goes up over time, so you want to take on as little dilution as possible the younger your startup is. If you only need to issue 5%, don’t accept 15%!
  Tell investors how much was allocated, how much was issued and what is left. Then tell them what your hiring plan is for your runway, who you plan on issuing it to and finally if you plan on making the pool larger.
  You could add that you plan on increasing the allocated ESOP from 10% to 12% out of the pre. The more confident you are here, the less likely you are to be messed with.
  It’s worth knowing what the option pool shuffle is. It’s a trick some investors use to decrease your effective pre-money valuation by getting you to issue more shares to the ESOP than needed.
  What you need to say
  “We have issued 3% out of the authorised 10%. We have a hiring plan to issue 4% more this round, so we are covered for the next 18 months.”
  Question: Do you have a model?
  What they mean
  Model is short for a financial model.
  Have you spent a long time making an excel model which shows every little detail of your company and how your company will scale up? No?
  The answer is always yes, even if it is no! Think about series 1 of Silicon Valley where Jared needs to come up with a business plan overnight…
  You have to have a financial model. They are not easy to make but they are absolutely critical. I was working with a founder in Europe and we discovered the CAPEX required to service customers would mean a massive outlay of cash and that’s his economics would simply not work. Seeing this he did a deal with the GM of a major company in his country and the leasing basis model has revolutionized his economics. That’s the power of a good model!
  The most time intensive part in a financial model is your revenue assumptions. The cost part is comparatively simple (Though harder in ecommerce). Where you will lose your mind is making the model make sense! The best way is to have robust KPI sheets where you can track margins, CACC/LTV ratios and the like.
  If you don’t have a financial model, then I have 5 templates covering ecommerce, saas, enterprise saas, subscription commerce and apps. You can check out all the fundraising models here.
  If you want to learn why you need a financial model, I wrote a blog which will take you through how to think about making your financial model and how a VC will review it. Why you are making a financial model for your fundraise is wrong.
  I personally don’t think you should share models with investors after a first meeting unless you are really getting the round done expediently, in which case normal rules don’t apply. In the first meeting you are trying to figure out if you want to work together and if everyone buys into the opportunity. Why bring in your imaginary numbers at this point? 😉
  What you need to say
  “Sure, we spent a lot of time planning our fundraising needs from it. It’s our first meeting so my key goal here is to ascertain if you buy into the problem we are solving, that there’s a huge market opportunity and if you want to bet on us to be the winners? I think we can agree our forecasts aren’t useful if we can’t all buy into the basics? Assuming we proceed, I’m happy to share our model with you.
  I would be happy to walk you through the high-level milestones we want to hit if you like, so you can get a feel for the size of business we plan on building?”
  Question: What are the key assumptions in your model?
  What they mean
  If you didn’t see the previous question, model means financial model, or fundraising model.
  They can be pretty large. A lot of investors aren’t super amazing at Excel (Really) so they might be loathe to delve into the trees of your Excel file. They might just want to get your key numbers, track growth, see if your metrics make sense.
  Now, your model is a sales model, like all your material. You need to tell a VC scale story… but.
  If you read nothing else, read this:
  Under no circumstances tell investors your numbers are conservative!
  This is super cliché. Everyone says it and it’s total bullshit. Investors will smirk when you say it. Just don’t even if your numbers are. The only exception is if you are getting on really well with the investor and they something like ‘your numbers are huge, how could you make them larger?’ Then you can say, well ‘TBH, we are trying to be realistic and conservative. We actually think we can do more but we’d rather give you something we can exceed as the next stage investors would love to see a chart of how we overperformed what we said we would do!‘
  Another key think to learn is that ‘all models are wrong, but some are useful.‘ Your numbers will not be right, they can be really wrong though, so mitigate looking dumb.
  In order to answer this question, you need to know what the assumptions are in your model, surprise! Tell the key ones. Double shock!
  You can tell a story with numbers, so do that. Maybe start with your goal, and then what key things you are going to do to hit that goal. How will spending money drive the top line? What will be your contribution margin after explaining the component of your COGS. How do you think the evolution of your CAC will play out depending on the channels you are going to leverage. What will be the impact of churn? etc.
  You do not need to list every simple assumption. The investor asked you what the key numbers are! Remember your meeting is max one hour, so stay on track!
  What you need to say
  “Cool, our goal with this round is to get to $10m ARR. So, let’s focus on the key drivers on how we are going to get to that in 18 months from where we are at present.
  We are a SaaS company. We generate revenue by the number of customers we have, how much we charge them per month and how long we keep them, meaning the churn rate and finally expansion revenue through up-sell.
  Our profitability is determined by our COGS, to get to gross profit, we deduct our operating expenses. The key component of our OpEx are our staff.
  Given the stage we are at, the top line and our COGS are our biggest focus. We want to move our contribution margin from 65% to 85%. Our new CTO is working on a new architecture which will use considerably less API calls. Now on the revenue side, to be more specific, we have three pricing packages. We are going to more heavily promote the share of middle packages which will bring our ARPA from $600 to $1000 over the next 4 months. Our churn rate is presently 4.5% monthly. We are going to bring this under 4% through a more aggressive customer success programme. As we are still sub scale, we assume our OpEx will range between 100-120% of revenue for the next 16 months.”
  Question: What are the key drivers of growth?
  What they mean
  This is akin to the previous question we went through. The investors are being a little more specific and are giving you a little more direction.
  Growth matters a lot and it’s one of the key things that VCs look for in a startup. If you are growing like crazy, do you think they even care what it is you do? No one went into VC with a goal to invest in dog walking companies, but look how much Wag raised! If you don’t read much, it’s $300m. Go figure.
  The investor is trying to understand whether or not you understand the model that you apparently made, as well as what you should be focusing on. To get an A in this exam, you need to show an understanding of what matters and how you will focus on these to get big with the least effort and wasted cash.
  The only costs related to growth are your marketing expenses and your COGS to support them. You should focus on acquiring and retaining customers. You can go further by detailing your go to market strategy in these drivers, such as leveraging channel sales and what you think the CPA/CPLs will be.
  The cheapest customer is the one you keep. It’s 7x cheaper to keep a customer than it is to acquire another according to McKinsey. So churn is a driver of growth as is expansion revenue. Think of it like this, if you are bringing buckets from outside to fill up your revenue bath, will you fill up that bath faster if there are no holes in the bucket? Yes. If it’s also raining so your bucket is ‘expanding’ you’ll be putting in more cash into the bath.
  Finally, being in the right place at the right time matters. A rising tide lifts all boats. Investors are looking for the bet to place in an attractive market, so you can close out by detailing the growth of the market you are in and how that is wave driving you forward.
  What you need to say
  “Adding and retaining customers with strong unit economics are what matter. If we can profitably acquire customers with a low payback period then we will print money. We aren’t there quite yet, but this is the plan!
  We are highly focused on distribution via channel sales. Our COO has a lot of experience here, having done it for both Xero and MailChimp, so we’re going to double down on what we are good at. The more partners we can add and the marketing relationships we can develop the better. We will, of course, have to scale up the support team here. We have some good hires in mind already.
  Finally, the highest growth segment in our targeted market is in face micro-companies. They’re cheap to acquire and help us to scale our server utilisation better. We will look to capture 15% of the market and then start to expand our focus to the SME portion, which has a longer sales cycle but better retention prospects and higher ARPA.”
  Question: What do you do if your top line expectations do not match expectations?
  What they mean
  This is another test to see how the founders respond under pressure, and how well they have thought through their business.
  The top line is how much revenue you make. The bottom line is how much you lose ;). The implication is that your costs meet expectations but your revenue does not and therefore your net burn is higher than planned and your runway will take a hit.
  There are real ramifications of not growing your top line; growth is what investors buy into. If you do not grow your top line, you may not be able to receive additional funding. If you cannot raise on the terms you want, and you’re not profitable, you are default dead with a D.
  There are a number of ways to respond to this. There isn’t a specific correct answer. What matters is that the response is logical. You, of course, can disarm this question by making a joke, but you are still likely going to have to give a response.
  Offering that you have developed a base, downside and upside scenario depending on the market reception makes you look prepared. So reciting the playbook of the downside case is what you start with. Then you want to slide in the upside case to inspire them to what could be… You are going to have some views of what you will do to ameliorate your less than ideal growth as well as the painful measures you might take to mitigate your burn, which will likely involve a headcount reduction.
  You could mention financing implications such as doing a bridge round to help you get to the next stage, but that might put negative thoughts into the investor’s head. Read the situation and make a call.
  What you need to say
  “Well, I don’t think anyone will be happy, including me!
  The team and I, have put a considerable amount of our sweat and tears into building our baby. We have mapped out how we believe we can best go to market and scale. We believe that we have a firm grasp on our unit economics, but of course, no battle plan survives contact with the enemy.
  The market is considerably large and we believe this is the best timing for us to penetrate the market with our differentiated product.
  There will be warning signs. You don’t suddenly hit a binary test point as to whether or not we have succeeded and are materially off plan. Whether we are meeting expectations can be viewed weekly and monthly. If we are not meeting our monthly target, then we adjust our burn rate and scaling plans and consider options including pivoting.
  We have developed three plans in our financial model: a base one, the one we presented. We also have a downside and upside scenario.”
  Question: How many customers do you need to break even?
  What they mean
  We have covered break even before.
  The investor means this quite literally. How many customers do you need to break even assuming an average ARPU and your cost base?
  You either know the answer or you do not. Of course, there can be variability in this number, but the right answer is the one based on your plan.
  The exact number is not really the point, it’s the order of magnitude. Is it a million customers or is it 100?
  If you need a massive, unrealistic number than you may have issues. VCs will do an analysis of what it takes you to be viable. I know this to be true.
  The scale of business you need to build to break even has implications on how much you need to fundraise. If you need a million customers and your acquisition cost is $10, then you need to raise $10m just for paid channels! So you are talking $30m easy to break even. Also, how large is the market and how fast is it growing? If you need a million customers and the market size is currently 500k, then the market better be growing really fast or you simply don’t have a big enough market.
  So when you are reviewing your model, run this analysis and learn the number. It’s called doing a break even analysis.
  What you need to say
  “According to our base case, we break even in January 2019. At that point, we will have 1200 customers, and be doing $1.2 million ARR. Of course, if we are more aggressive this will change as our cost base will be front-loaded to facilitate the growth.”
  Question: How do you make money?
  What they mean
  Startups exist to be acquired by corporates to solve their problems, but they are also meant to make money! You need to have a clear revenue model.
  This is a fairly basic question and it it’s all about your business model and how you do pricing and how that relates to your unit pricing.
  Let’s pretend that you are Gillette. You would say that you give the razors away for free and charge for razor blades. You would then explain the cost of the razor and then the huge margins that you get on the razor blades. You would explain how people will keep buying the razor blades and you ergo make a lot of money.
  Think about any successful company you know of. My bet is you can explain how they make money simply, right? There aren’t 15 different ways. Something makes most of the money. So for SaaS that’s recurring revenue. For ecommerce is a margin on selling things. For a consultant, it’s selling time per hour. For an affiliate, it’s by selling others’ products.
  I’m always dubious of people saying things like ‘data’. You need such a huge amount of data to make money. The same thing goes for ecom apps that do CPL/CPA. You need a min of 5m users last time I did an analysis.
  It is best to address this question by explaining your business model, and how smart it is. Read this to get smart. It will teach you the fundamentals of strategy and business models. It’s a long read but you are screwed if you don’t have a real business model.
  What you need to say
  “Whilst Dollar Shave Club did not invent their business model, we were inspired by them. They sold for $1 billion which is not too bad!
  Subscription is powerful, so we adopted the same key principle. The market for shaving is, of course, large, but the market for beauty product discovery is even larger.
  Every month we send our customers a box of five pointless products. Since they are totally pointless, we will never run out of pointless things to send. So on a recurring basis, we charge our customers $39. For our first full year cohort, we have a 73% retention rate.”
  Question: What’s your business model?
  What they mean
  We just brought up the point of the business model in the last question. The investor is now asking about your business model specifically. You absolutely have to be able to answer this question, since that is what the investor is investing in. Remember you are in a sales meeting, so saying that we sell stuff on the Internet is not a visionary thing that the investors want to buy into.
  A business model is a story how your startup works.
  It answers VCs, your parents and Peter Drucker’s age-old questions:
  Who is the customer?
  What does the customer value?
  How do we make money in this business?
  What is the underlying economic logic that explains how we can deliver value to customers at an appropriate cost?
  I love this story from Fred Destine at Accel:
  “If you think about TJ Parker at Pillpack – if TJ had come into my office and said: “I’m building an online pharmacy,” it would have been a short conversation. But he comes in and he says: “I’m helping people with complex conditions live better, I’m giving them back their lives because they don’t have to do pill boxes … I’m making sure they medicate properly, and I’m all about life, I’m all about enjoying life, my mission is to help people live better lives through better pharmacy,” that to me is a narrative that I can relate to because I am thinking: “I can hire people against that narrative, I can build partnerships against that narrative, I can market against that narrative – and, it’s imbued with a sense of purpose.”
  Pillpack was just acquired by Amazon.
  You need to tell investors a story. The more that you understand business model strategy the more compelling you’re able to tell the story, and simply. Get your story straight.
  What you need to say
  “Some people sell shoes on the Internet, we deliver happiness. When you think about your experience with any ecommerce, what is the first thing that crosses your mind? Probably a painful, boring experience, with horrible customer care.
  Before we started Zappos, we hired McKinsey who did an extensive study and found that 73% of people would shop on a site more regularly if they had amazing customer care, and the fantastic returns policy. We acted on this market insight and designed our business model to deliver the happiness they wanted.
  Of course, the first thing that you are thinking is that this is going to cost a lot of money. And you’re right! However, whilst we lose money on a first three purchases, our customers buy 37 times year.
  I’m sure you don’t need to be an expert to do the basic math. Let me do it for you anyway. We have 34 purchases at an average basket price of $70. The gross margin is 40%…”
  Question: How quickly are revenues growing? What is fuelling that? What are the bottlenecks?
  What they mean
  Investors are getting interested in you and so they want to know more information.
  They may even be getting excited by this point, but they still need to make sure that the fundamentals are here.
  If you are growing faster than the industry average, then you already have their attention. But if you are growing by doing Groupon every week then you smell.
  If the “fuel” is word-of-mouth then you’re very special indeed.
  The question about bottlenecks is merely how can you grow even faster if you can remove them. That investors’ money is one way of removing the bottlenecks. The bottlenecks can be all sorts of different things, depending on your business model. It could be hiring, it could be funds to blow on marketing etc. Your architecture being total rubbish and you have so much technical debt that Greece feels bad for you is a really bad bottleneck.
  You want to be structured when you answer questions. You can start by explaining
  What your revenue is presently
  How much it has been growing MoM and YoY
  Explain how you make money
  Drive into why componants of your revenue are improving. It could be more users, increasing your pricing, expansion revenue and the like
  Are there any new industry trends?
  What channels are you acquiring customers by and how are they working out?
  Explain the challenges you are having in scaling
  What you need to say
  “Our one-year CAGR is 40%, for the past 6 months, we have been growing at 50% MoM.
  We make money by selling Snapchat credits for filters. We charge $5 per filter.
  Things have really been beginning to pop since we started our buy one get one promotion. Customers really seem to buy into the social good that we are doing by giving free Snapchat credits to starving children. I wish that we had thought of this earlier.
  Really the only thing holding us back is the fact that the starving kids don’t have enough data access. We could improve our sales cycle dramatically with drones blanketing wifi over the continent.
  We also have some scaling issues. We are looking to hire a more experienced lead engineer who can more effectively do sharding.”
  Question: What’s your price point, and what’s your pricing methodology, and why did you settle on both of these?
  What they mean
  You have probably talked about how much money you make and some of your KPIs and now investors are questioning if you are making as much money as you could be.
  There are a number of questions you are going to want to think about here:
  What is your pricing point?
  How many different pricing packages do you offer?
  How do you think about effective segmentation?
  Do you have a means for expansion revenue?
  Do you offer an enterprise package?
  Do you offer professional services?
  What is the way upon which you’ve settled on the prices, and how did you come to that decision?
  Are your prices too low or too high?
  Are you executing any smart pricing strategies?
  Do you have thoughts about promotional pricing?
  If you are doing a free trial, for how long?
  One way or the other you are charging something for your product, so why are you charging those priced? I presume you know, so tell them.
  Of course, maybe you’re like Pinterest and don’t make any money… in which case what you have to do is say “We haven’t turned on the pipe… yet… But imagine if we did!” Yeah, apparently VCs buy that BS if you grow fast enough.
  If you are really early stage it’s fine to not know how to price effectively. Just be honest with the investor. Tell them this is something you are figuring out, but you are more concerned about identifying product market fit than optimising pricing. It’s fine to say you don’t know if you are not ignorant and that there is a reason you don’t know. You know you don’t know.
  What you need to say
  “We recently increased our prices, we had a thesis that we were leaving money on the table by only charging $50.
  We decided to change the prices a month ago, but we have seen no drop off rate in our conversion and in our revenue growth. Customers seem to be relatively price-sensitive since we are offering them so much compelling value.
  We estimate that they are getting 20x RoI. That means we can still double and offer 10x value. We are still testing, but the results are quite compelling. We want to start expanding the pricing packages we offer and see if we can more effectively price discriminate.”
  Question: How do your customers think about ROI on their spend on your product/service, and what kind of ROI do they typically see?
  What they mean
  People buy a solution when it is cheaper than them doing it themselves and they identify with the problem. Companies should focus on what they are best at and outsource the rest.
  The best founders truly understand the value they are offering to their customers, but more specifically the dollar value of that. This clearly better applies to B2B companies rather than say in C2C.
  One of the best pricing methodologies is to do things on a value basis, though there is a whole lot of that can go wrong with that. Particularly in enterprise sales when the procurement department is getting near bonus time and want to look like heroes.
  When you think in terms of value, you need to understand the issues your clients face, how they deal with it presently and what that costs them on a fully-burdened basis.
  Say you are in AI and you want to replace inaccuracies and slow processing with a system. This is code for firing people. you might figure out that there are 10 people doing this at $40k per year. Assume 1.5x for overhead, so it costs them (simplistically) $600k a year. If you offered your service for $100k, they save $500k a year. That’s a big saving and it could be far more significant than the $10k you thought you might be able to charge. Get it?
  As always, “I don’t know” is a bad answer.
  The ideal scenario is to have a deep insight into how your customers use your product to solve a problem and how much that problem was costing them before they use you. In order to sell your products well, you need to understand these anyway.
  The sales team should always be asking their potential targets or existing questions like these and feeding that back to you so you better understand how customers use the product, the size of their problem and how much value your solution would imbue them.
  What you need to say
  “We solve a very specific pain points. Customer care. Our artificial chat bot doesn’t sleep and has an 87% deflection rate which is above the current human rate of 60%. We charge half the amount they pay the staff, and not on a fully loaded basis. So, the simple math is they get a 2x improvement, the reality is far more. We have only made 2 deployments to date and the numbers are starting to look like they are getting a 50% saving for a 2x improvement in customer experience. Feedback from the sales team is that we are already fairly priced and won’t be able to charge more.”
  Question: What are the profit margins/what might the margins be once the company reaches scale?
  What they mean
  How much money are you losing right now? I’m sure you are 😉
  There are many different profit margins. At Lazada (Acquired by Alibaba) we Had GM1/2/3 and PC1/2/3. That’s ignoring EBITDA margins and the like!
  You want to explain the contributions to your losses at present, but how when you scale these will be divided over a fixed cost base, and that you have such large gross margins due to your small COGS, that the variable cost function is de minimus.
  Clearly, this is what is great about software companies. Office is basically free for marginal customers. So set out what your fixed cost base looks like and how it will need to expand, as well as your variable costs. Link your growth to your marketing spend and how you get a payback.
  It’s fine to have negative profit margins at the earlier stage, but the top margins should get progressively better and then the lower P&L ones.
  As you set out how your margins will improve over time, you need to have a story of what changes will happen in your company to facilitate that.
  What you need to say
  “We are not profitable, we will not be profitable for three years as we cover our fixed costs and investment in marketing growth. That’s obvious, right?
  However, things start getting very interesting in year three.
  We have a very large fixed base in order to develop our product, which mainly constitutes development costs. But as you know software has a marginal cost to customers and we have developed an amazingly scalable and extensible architecture with minimal technical debt.
  At scale, our net margin should be a bit better than average, with COGS of 15% given the level of customer success we do. But since we aren’t focused on enterprise and leveraging a k-factor, our distribution costs will be small. We envisage EBITDA margins in the range of 60-70% in year 5”
  Question: If your equity/salary was based completely on the accuracy of your projections, what would your forecast be?
  What they mean
  This question is a little tongue-in-cheek. They may be calling BS on your projections, they could even be getting a little annoyed that you will not give them realistic numbers?
  It may be best to get to the point and be honest, or at least a little more open in sharing your logic.
  Check out our “hockey stick curve” for users, traffic, revenue, etc. It doesn’t mean anything. Right now your numbers are near the X-axis, and you are showing that they will be reaching the sky. Most founders think that they have to show this curve or they will not get funded, and so whilst you read that you have to do it, investors see these curves five times a day.
  They want to know what you really think you will do. Yes, of course, you do not really know what the numbers will be, but they want to understand how you think you will get to really interesting ones.
  The value of your equity and salary is based on your projections though. The numbers you present are what you need to hit. If you plan on raising again, the next stage, or even current stage investors will compare your projections against actual. If you are not hitting anywhere near what you said you were going to do and you are not profitable your equity is zero, and you have no salary!
  Don’t present numbers you simply have no chance of hitting. It’s a Phyrric victory.
  What you need to say
  “John, we ran three scenarios. If we do not do better than our downside case, I would be better off going back to Google and getting paid a lot more than I will earn here.
  Of course, most start-ups fail, so let’s just assume this is the baseline, and everything else is a range of upside.
  Here is what has to go right for us to hit and even exceed the baseline. Let’s talk about the key drivers. If we can agree on the drivers, then it’s a matter of execution. If you think any of our key metrics are out of line with your experience, I’d love to benefit from your experience.”
  Question: What are your 3-year projections?
  What they mean
  You need to have a model and forecast for between 3 and 5 years. Whilst you will model this on a monthly basis, you need to discuss them on a yearly, aggregate basis.
  The investor fundamentally wants to know how big you think this business is going to get in a reasonable timeframe.
  Three years may seem like a long time to forecast in a business model plan, but time goes by faster than you think. I personally don’t like 5-year projections for early-stage companies as you overestimate your results in the short term, and underestimate the long-term opportunity. The numbers in 5 years can look bonkers due to the power of compounding.
  If you pick numbers that are too small, then this is not an investable business by venture capital companies.
  If you pick numbers that are too large, then your expectations are not realistic, and you lose credibility. You have to be in between.
  The best answer is to give a range, but of course, that is mostly what is not in your business plan. In year three you have numbers in cells. Add commentary after giving numbers. Control the narrative, and engage them in a discussion. Funding abhors a vacuum.
  You will start sharing your top line numbers. These are likely your number of customers, then your revenue, your costs and then losses/profits. You can then talk about a few key select metrics.
  What you need to say
  “Under our base case, in year three, we will have $55m GMV. At a 30% gross margin, and we are doing $20m gross. OPEX will be around $25m so we are losing $5m.
  Depending on how things go, I think our top line could be 40% higher or 20% lower. We still are figuring out exactly what our CAC will be. That’s such as crucial determinant of our cost and ability to grow the top line.
  Nasty Gal, our nearest competitor, was doing $20 million dollars in year four, so even in our down case, we will still be very attractive.”
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  Comments 2
  Carlos C Tapang
  March 5, 2018 at 5:57 pm
  Great pointers! I am a software engineer founder, and a complete newbie on this. The message for me here is that I need to have a financial wizard in our team. I have a financial model in my mind, but I need to back it up with believable numbers.
  Reply
  Post
  Author
  Alexander Jarvis
  March 27, 2018 at 4:18 pm
  Hi Carlos –
  It would be nice to have a financial wizard on the team, but you can also rent one.
  Personally, I would prefer to have a BI analyst as you need to dig into your metrics.
  Depending on your business model, there are a number of templates here (which will do most of the heavy lifting): https://www.alexanderjarvis.com/fundraising-models/
  When it comes to raising, sure, you need to be able to talk about your financial projections, but it’s the logic that actually matters (as your numbers will be BS ;)). If you have metrics, your projections don’t matter as much. Also if your projections are based on actuals, they are obviously a lot more credible.