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How important is a Startup company's accounting/finance system to an Angel investor or VC?

We are currently in the process of raising funds and attracting attention. We know enough to prepare for the Investor's due diligence to follow. While we have a small budget, our method of accounting and finance is probably typical for an operation under 6 employees. Will they want to see our books? Is there a "minimum" of accounting practice that is acceptable to most investors constituting fiscal responsibility and management?

Answers

EMERSON GALFO
Title: CFO
Company: C-Suite Services
LinkedIn Profile
(CFO, C-Suite Services) |

Investors typically ask for the financial statements and ask for details (lists) on a few major line items. They may also ask for specific policies (financial or otherwise) related to some of their concerns. It all depends on the amount of the investment and how diligent they are. At your stage, seldom do investors do a deep dive on financials. As long as your financials reflect fairly the health/condition of your company (whether it is good or bad) and in accordance with GAAP (or even an attempt to conform) , you should have no problem.

Being able to explain the "whys" (i.e. why is AR too high, why is debt this much, why is your "X" expenses this much...etc.) is more important than the condition (or amount) itself. Investors do NOT expect "founders" to be financial accounting and policy wizards but they DO expect them to have a good grasp of how the company is doing financially and should be able to explain how he/she is/was using the financial resources available to him. More importantly, he should be able to SELL how he plans/intends to use the money he will get from the investors. The startup culture is sometimes at odds with "fiscal responsibility".

Another reality is that....financial reporting and policies gets to be more important to investors AFTER investing but not as important as HITTING your milestones.

Topic Expert
Wayne Spivak
Title: President & CFO
Company: SBAConsulting.com
LinkedIn Profile
(President & CFO, SBAConsulting.com) |

To add one item to Emerson's excellent response: Make sure they are clean, which you should strive for in any event. By "clean" is your bank recs are done, your A/R, A/P, P/R, Inv sub ledgers agree with your control or master accounts.

Also make sure your Balance Sheet balances and Net Income from the P/L equals Current Earnings.

To the purists: we've all seen funky things happen with the most complicated and least complicated accounting systems. A few extra minutes reviewing can mean some major embarrassments not happening.

Anonymous
(CFO/Board Advisor) |

Emerson is right and makes very good points. The two most important are: (a) "seldom do investors do a deep dive on [historical] financials"; and (b) "Investors do NOT expect "founders" to be financial accounting and policy wizards". To add to Emerson 's comment, here are a few items which Investors do look at:

1. Checkbook/Cash: Investors usually do a deep dive on the sources and outflows of cash. Forget about the fancy GAAP stuff right now, its all about Cash.

2. Unrecorded/Unpaid Liabilities: This may be an Investor's biggest concern. Many are reluctant to invest if the proceeds are going to fund past liabilities, whether it be to Vendors, government (think sales and payroll taxes), prior loans, or deferred salaries and compensation.

3. Detailed revenue, expense, and capex build-up in the projections: My experience is, other than the technology/product and the market size and competition, on the financial side, this is where Investors spend most of their time. They want to make certain that the projections are "bottoms-up" and well thought out, not just a spreadsheet math exercise. While supporting the revenue portion of the projections is harder, and requires somewhat of a crystal ball, the expense portion should be detailed, beginning with headcount by position.

The Cash Flow statement is the most important statement in the projections. It shows when/if additional funding is required, and allows the Investor to do what if analysis. Investors don't want to underfund the company. They want some reasonable assurance that their money will get the company to the next funding round or cash flow positive.

My recommendation is to be prepared for these three areas due diligence.

Topic Expert
Simon Westbrook
Title: CFO
Company: Aargo Inc.
( CFO, Aargo Inc.) |

I would say that it is about evaluating your financial responsibility rather than the content of the financial statements. How is cash controlled, banks reconciled, processes for approval of expenditure and the quality of the spending!

Sara Voight
Title: Controller
Company: Critical Signal Technologies, Inc
(Controller, Critical Signal Technologies, Inc) |

Although it isn't likely going to fly today, my father ran a multi-million dollar business on green bar paper only 25-30 years ago. He didn't even use something remotely similar to QB, while I was using Great Plains (pre Dynamics) at my job. His biggest investor was a person/entity significantly larger than him who had the opinion that unless the Big 8 reviewed it and you were using an advanced accounting system, you must be doing it wrong. They sent in the big guys (KPMG) to do a thorough audit and the investor got a big surprise. They reported that the F/S and internal controls were stronger than most businesses they dealt with.

So to add my voice to the chorus - investors are looking at the 'system' in place to run the business and how in control you are, as well as how you can substantiate some of the major pieces.

Topic Expert
Wayne Spivak
Title: President & CFO
Company: SBAConsulting.com
LinkedIn Profile
(President & CFO, SBAConsulting.com) |

To digress.... Ah, green bar paper; remember it so fondly....

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