Importance of Cash over Profits

I have been invited by folks at Power of Ideas (POI) to give a talk on the above topic as part of POI start up workshop 2010 – that will take place @ IIMA Campus from 8-17 October. I looked at the agenda of the workshop & believe its is a very good initiative and should end up adding a lot of value to the shortlisted teams (big improvement over last year’s mentoring sessions).

They requested me to jot down my thoughts about the session and share with POI folks for feedback. I thought why not jot down the thoughts on my blog and get feedback of a larger community. I plan to use a lot of real life case studies (both good and bad) from the my experience @ madhouse and with all The Morpheus portfolio companies. Here is a related post I wrote previously: Should a startup be Ramen Profitable

Please  share your thoughts in comments – especially ideas on how can I make the talk better.

  • A startup should focus on only two things – Making & Selling
  • When you are making something you need to spend cash & when you sell anything you earn cash
  • Naturally making comes before selling and hence cash-wise spending comes before earning
  • If you can earn more than you spend – you are cash flow positive
  • So managing your efforts in making and selling is the key to managing cash

  • Identify the minimum set of features that you need to build as V 1.0 to solve the smallest part of the “big problem” you are going after otherwise called Minimum Viable Product (MVP)
  • What you build should offer “definitive value” to the customers – so that the product is good to use
  • It should be something you can evolve (or scale) into a complete product
  • Do not invest more than 40-50% of your initial capital in making V 1.0
  • It should take between 2 – 6 months to make V 1.0
    • Closer to 2 months for a simpler product – lets say a web service
    • Closer to 6 months for a more complex product – lets say a hardware based device 
  • Since you have 50% of your capital still with you, there will be enough room to evolve your product into something that people will pay for and something that makes money
  • Important pointers:
    • In the beginning, don’t spend more than 2 weeks on discussions / analysis / customer surveys / market search and other such activities
    • For the initial version almost all of the making should be done by founders. There is no room for hiring employees for making or outsourcing it. Outsource usually makes you spend more time & money, and you will end up with a shabby product.
    • Never hold a release waiting for a perfect product
      • There is nothing called a product that cannot be improved and startups who get into the mindset of coming out with a perfect V 1.0 end up spending most of their cash building V 1.0
      • Irrespective of how much you spent making V 1.0 – it usually doesnt sell – you need to be able to take the learnings from this phase and build 2.0 / 3.0 and sometimes 4.0 before it starts selling
      • The early you release the better it is
  • Most of these points also apply to versions that come after 1.0

  • When you have a MVP ready, its time to get initial customers to use it, give constructive feedback for you to fix things and then go out and get somemore customers.
  • The most obvious tendency is for us to do Mass Media Marketing & Advertising – that’s something that we’ve been exposed to all through our growing up days and so a default choice!
  • As a start-up or even a company that’s on its growth path – its important to act by ONE Mantra – “Marketing / Sales activities that can be measured are worth investing in”.
  • There are lots of capital efficient ways of spreading awareness about your product / generating leads / closing sales and getting repeat orders
  • In good startups all money is spent on “making” and there is no budget for “Marketing or advertising” and even if a startup was to spend some amount, given the small budget – no one would notice
  • In the first year or two almost all marketing and sales should be done by founders. There is no room for hiring employees or outsourcing the work. You will end up spending more time / more money and bad results
  • Remember: Goal of Marketing is to generate Qualified Leads & of Sales is to convert that lead into a paying customer
  • Startups need to practice “Zero budget marketing” which in a nutshell is:
    • Create kick ass products which will be sold by the initial users to other users
    • Leverage upon Social Media channels to create a community – take their permission to talk to them about your product
    • Have a simple and effective website & a blog
    • Create good content that can be used to communicate with your community
    • For offline businesses – engage with your customers via cost-effective events & meetups
    • Measure imapct of each channel – learn from the data you have – quickly discontinue channels that are not effective
  • Sales
    • Take the conversation towards giving more information about the product to the qualified lead
    • Increase the chances of him converting into a customer / freebies – for initial customers to make them feel special
    • Keep in mind to increase Trust about your brand in the customer – that can be a potential concern
    • Conversion tactics include – free trial / discounts

 Back to basics
  • Make a good product while controlling the spend on making
  • Practice zero budget marketing techniques
  • Founders should take care of both making and selling
  • Improve the product fast to help sales take off
  • Then you are at
    • Low monthly expenses
    • Early Sales
    • You are now cash flow positive and that feels good

  • Running out of cash is the biggest reasons for startups to shutdown
  • Hence its very important that at every point you have a good understanding of
    • Cash in Bank
    • Monthly cash flow
    • Runaway available
  • monthly_cashflow =  (monthly_cash_in) – (monthly_cash_out)
  • For example if you spend 1000 Rs in month of September and got paid 600 Rs for the sale made
  • monthly_cashflow = (600 – 1000) =  – 400
  • If you keep going like that one day you will have “ZERO” cash available and that would end up killing your startup
  • On the other hand if you become cash flow positive even by a small amount  – it means at end of every month you have slight more cash than what you had the beginning of the month
  • This means few important things
    • Your startup had infinite runway (feels good)
    • You have made something people want to use and pay for
    • You have managed to keep your cost of making and selling below the cost at which customers are buying
    • And this is pretty much formula of a successful business
  • While fighting the battle of survival – cash flow and runway are the most important things a startup should pay attention to

  • They also matter but more in longer term after you have won the battle of survival 
  • There are two kind of costs
    • Monthly costs (for example – office rent / salaries etc)
    • One time costs  (for example the office printer you paid for this month but will use for next 2 years)
  • While calculating monthly profits you take the one time costs, convert them to monthly cost, add it to regular monthly costs and compare the total to your monthly earnings
  • One time Cost
    • You purchased a printer this month for 2400 Rs
    • Printer will be useful for next 24 months
    • You convert the cost into monthly cost – which is 100 Rs per month
    • You add the printer cost into monthly cost
  • Lets you monthly costs are 1000 rs without considering the one time cost
  • Now to become cash flow positive you need to earn above 1000 Rs
  • But to be profitable you need to take into account the one time cost as well and earn above 1100 Rs


 1. I have kept the talk to Monthly Cash flows and Profits
2. I have also kept the concept a little simplified so that its easy to understand. Not gone into payables / receivables / PAT / EBITA etc
3. Once people understand basics they can build upon them