Financial modelling for fundraising
One of the main reasons people need a financial model is because their organisation as at a stage where it requires external investment. A key part of securing investment is being able to demonstrate to prospective investors how their money will be used and when they can expect a return from their investment (with the exception of philanthropic and some impact investment).
What do investors expect?
For an investors, a financial model is
demonstration of financial diligence (is their investment in safe hands)
a translation of strategic plans (usually set out in your pitch deck) translate to income and expenditure
a tool to evaluate sensitivity to changes (ie risk)
RIghtly or wrongly, a financial model has also become a standard way of articulating your business through numbers. This is because the common structure allows prospective investors to quickly zero in on key metrics they care about and compare them against other investments they hold or that they are considering.
3 statement financial model
The most common form of financial model is called a 3 statement model so called because it is built around 3 interdependent financial statements:
Income statement or profit & loss (‘P&L’)
Balance sheet
Casfhlow
These are the same 3 statements as you will find in company accounts which is why investors find them so useful - it allows them to compare what you are putting forward not only against other investments, but also against other similar businesses that are already trading.
How do I create a financial model to raise funds?
It’s all too easy to jump to the conclusion that for investment all you need is a 3 statement model. In reality, a successful fundraise is underpinned by a clear plan as to how you are going to achieve the vision that you set out and financials are just one (critcal) part of this. In my experience, the most effective and useful financial models for fundraising go through 3 stages:
Evaluate & understand existing business - before making any future plans it is critical that you evaluate what has actually been happening as this is ‘fact’ rather than an estimate as to what might happen. This is important because any future plans will be an avoluation from where you currently are and your fundraise will need to be able to articulate how you get from A to B. It also allows you to see what is working versus what needs attention for example: how much additional volume is needed for income to cover cost (growth to break even), or unit economic analysis might help you explore how income and costs need to change to achieve profitability.
High level working model - just as a pitch deck starts as sketches on a notepad or whiteboard, a financial model is best not over-engineered so that structure doesn’t constrain creative thinking and exploration of different approaches. This stage will likely be a mess of various Google Sheets or Excels but embrace the mess! This is an opportunity to explore different scenarios around key strategic paths that are key parts of the fundraising pitch e.g. how changes in unit economics and volumes impacts income & expenditure, or maybe a top level analysis of if volume grows by x% each year, what topline revenue does that achieve by Year X? These rough workings help support the wider development of the pitch deck, identify key metrics to focus on, verify how much funding is needed, and ultimately give you clarity on how your financial model will be structured (making it quicker to build and less prone to errors through iteration).
Investor ready model (3 statement model) - with clarity over the key variables and a clear understanding of your actual financial data, the investor ready model becomes more about transferring the outputs of stages 1 & 2 in to a 3 statement model format and finessing such that it clearly aligns to your investment story - critically, the key inputs & outputs that will quickly allow prospective investors to understand how your strategic plans translate to numbers.
All of the above can be undertaken internally, in particular, stages 1 & 2 require no financial or accounting expertise. Seeking assistance from someone outside your organisation however is extremely beneficial 2 reasons:
Independence - not being involved day-to-day means someone external will draw insights and bring ideas that you would be blind to. Even if not directly, this alternative thinking may lead to the breakthrough moments in developing a compelling investment pitch. Experience from other organisations will bring invaluable learnings as to what has or hasn’t worked elsewhere.
Expertise - while you may be numbers savvy or even have a dedicated finance person or team, building a long term strategic model for investment i very different to day to day financial management. It is also a significant investment of time that existing resource does not have the capacity to take on meaning either the day-to-day falls by the wayside or the investment model is of low quality or has errors due to attentionbeing spread too thinly.
However you approach financial modelling for raising funds, remember that it is an integral part of process alongside the pitch deck and should be treated as such - an evolving tool that articulates your vision through numbers so that you are able to create a compelling investment proposition.
