“You look puzzled,” he said as he finished his presentation and was walking toward me.
Ben is the founder of a startup which is addressing a red-hot market. My friend, Dr. Merrick Furst of Flashpoint, describes these markets by saying, “The market cannot not say no.”
Ben designed a great product, and the market is talking about it. He raised his first round of funding from experienced angel investors and made his first key hire in a tech co-founder.
He thought this was a great time to bring his investors together so they could meet and he could give them an update on the business.
Pipeline Builder to Business Builder
He did a good job presenting the business’ progress and sales forecast. There were industry logos all over the slides. Some were in the “Sold” column, some in the “Pipeline” column, and the rest in the “Interested in Talking to Us” column. The presentation concluded with the magic $1mm end of year annual recurring revenue number. Who doesn’t love that?
“I’m not puzzled. But I thought the presentation would be a bit more robust,” I said.
“What do you mean?” he asked.
“The presentation was a good presentation for a startup founder. My job is to help you become a CEO. You need to move from pipeline builder to business builder,” I said.
I know Ben and his vision. He wants to build this business into a $100mm enterprise. And when it gets there, he wants to be the CEO who is leading it.
“Let’s get together and talk this through. I like what you’re saying,” he said.
When we got together, we talked about what it means to build a business.
It All Translates to Numbers
“Everything strategy translates into a number. The numbers together are organized into your financial statements. The financial statements are your scorecard for the quality of the business you are building. High quality will equal high value,” I explained.
“I agree,” he said.
“In order to build a high quality, high value business, you need to begin with the end in mind. A method I’ve used over the years is what I call the ideal income statement.
“The ideal income statement defines the business you want to build. It connects your vision with your strategy and your team’s execution. It will keep you and your leadership team on track year by year as you strive to achieve it. It provides the constraints for good decision making,” I said.
“How do I do this?” he asked.
I went to the board and outlined a simple income statement. (See image.)
Begin with the End
When I started putting in the percentages, he began to connect.
“If we are talking five years out, I think we will be 90% software recurring revenue and no more than 10% services,” he insisted.
“That means the software you design has to be virtually a self-install,” I said.
“Aren’t your customers going to need an on-site consultant to integrate the software with their back-end systems? What about training them to use it and keep them using it?
“If you don’t do this, they’ll start canceling as they lose sight of the value they are receiving from the software,” I explained.
Ben is a talented consultant, but he has never built a software company. The questions generated from this exercise started to put the business strategy into focus. He started to see the decisions he would need to make to build the business he envisions.
Move Closer to Your Ideal
“Let’s take sales and marketing, for example,” I said.
“The ideal income statement will help you decide how much you will pay your sales people. In a startup, this is always a big question. The ideal income statement gives you the constraint. If you expect sales expense to be 25% of sales, then your sales compensation plan must honor this constraint.”
He quickly jumped to the pretax income.
“I think we can do better than 17%,” he said.
“Great. In what areas are you going to be more efficient? Delivery and support, which will yield a higher gross margin? Marketing and Sales? Cut R&D? You decide,” I said.
I could see him light up. He was beginning to understand the power of the ideal income statement.
By beginning with the end in mind, he was now equipped to make the right decisions to get there. Every decision would have a numerical constraint to guide him.
Then we started to complete the “Now” column. When we finished putting these percentages on the page, Michael began to see how far he would have to go to get where he ultimately wanted the business to be.
“Your job as CEO is to make progress toward the ideal income statement with each year that passes. This tool will be the focus of your planning and review meetings. It will keep you on track,” I said.
Key to Future Success
Ben made the decision to take on outside investors. This means he will someday have to sell the business. To get the kind of value the investors expect, he will need to build a fast growth business which achieves the ideal income statement.
The ideal income statement will align his vision, his strategy, and his execution. With this tool, he will keep everyone’s expectations in alignment, which is what it takes to be the CEO on the day of sale.