Creating a convincing financial model for your early-stage climate startup

Your business’s proforma is the backbone of your financial planning and analysis infrastructure. It aims to replicate the complex financial narrative of your company in a simple spreadsheet, allowing you to visualize how its story will unfold over time, both internally and for investors/partners/etc. So, how can you create a proforma that’s consistent, clear, and convincing? And with a lack of historical data, how can founders overcome the unique challenges of building a proforma for an early stage company?

Ramsha Rizvi, CFA  is Investment Ops Manager at Enduring Planet. We sat down with her to discuss why these models are important, how to tell your business’s narrative in numbers, best practices for creating a proforma and how you can tailor your proforma for different audiences.  

Why does a proforma matter? 

A proforma or operating model has a number of practical uses. First and foremost, it allows you to understand how your business is performing, and forecast your cash flow. Second, it acts as a digital twin, allowing you to test scenarios - for instance, what happens if you increase marketing spend by 2X - to see the effects before allocating real resources. Last but not least,your proforma will be a key element of your fundraising diligence packet, enabling investors to understand the factors that will influence your business to become a cash generating engine. 

Structuring your proforma

Keeping your proforma to the minimum number of sheets possible will make it easier to navigate. Try to limit yourself to the following sheets: Cover page, Executive Summary, Assumptions, Financial Statements and any reference sheets to document breakdown or context behind any assumption. 

Start with a cover page that lays out a table of contents, your color codes, instructions on how to navigate the model, and any general assumptions or caveats. You can also add a model flowchart here if the model assumptions are very complicated for example for a business that uses SPVs as part of its business model. 

Next comes your executive summary. This is where you should add a feature to toggle between different cases (eg: bear, base and bull case), so you can see the effect of changing to  different cases on output easily. You should also add graphs that give analytical information at one glance, like composition of revenue, revenue growth, number of customers, unit economics (LTV, CAC) , sources of cash (cash from operations, financing or investments); and a summary table of financial statements (typically annual). For extra attention to detail, you can also follow the color theme of your company in the graphs here. 

The most important sheet of your model will be a  dedicated sheet for assumptions where all the inputs live and can be changed. Make sure that this sheet is organized in a logical structure: starting from revenue build up to cost of sales, operating expenses and so on. Leverage the use of grouping to collapse clutter. 

A tab for detailed (monthly/quarterly and rolled up into yearly) financial statements is the main output of the financial model; it will contain monthly and yearly balance sheets, income statements, and cash flow statements. Many founders make the mistake of leaving out the cash flow statement, but it’s one of the most important elements of the model, especially for VC-backed businesses.

Following a clear structure is crucial for helping investors see your business in the best possible light. If it’s hard to navigate, you run the risk that they’ll get confused or try to manipulate the wrong things, and miss the point of the narrative you’re trying to build.

Best practices for creating your proforma

Follow the color coding standard
General color coding guidelines are to use  blue or yellow background with a blue font for your inputs and black for the formulas. Green is usually used for figures that are from another sheet in the same model. We also generously use orange to explain where an assumption comes from, such as the government website, comparable company analysis, average of historical information etc. 

We also label headers for actuals with blue background and for forecasts in green, but the numbers themselves will be black. This color code should be consistent throughout the model.

Use templates with caution
It is recommended to avoid using generic templates unless it fits closely with your specific business model. When using a template, ensure that you customize it carefully and not run the risk of missing adding important growth drivers and assumptions of your business. The way you construct your model plays as important a role as the numbers themselves when it comes to showing how well you understand your business, so make sure you get it right, even if that means hiring someone to build it for you. 

Forecasting your revenue using bottom up approach
One way to forecast your revenue is a top-down approach, where you demonstrate your market size and how much of the market share you believe you can capture. Conversely, a bottom-up approach starts with incorporating your customer acquisition model ie; how many leads you can move down your funnel and convert to paying customers. The latter is more credible because it actually shows how you will capture the market share. 

Break your formulas down
If you have relationships between an output and an input that involve lots of different transformations, don’t fit everything into one formula. Break it down into individual steps to keep it legible and transparent, and document clearly.

For example, to calculate monthly numbers for depreciation, deferred revenue or payment from installment customers, use a waterfall instead of creating a complex formula in one line for forecasting these values. In other words, create a separate referenceable schedule that breaks down depreciation of each asset bought on a specific date in one line; it’s called a waterfall because of the shape it takes when you model purchases of fixed assets made in several years and it depreciates along the same number of months.

Add discount rates when needed
Adding discount rates or explainers can help compensate for the fact that you’re an early stage company without a lot of data. For example, let’s think about churn and customer lifetime.  The number of years that any given customer will keep a relationship with your business is usually forecasted by dividing 1 by your customer churn rate. So, if you’re super early and only have a 5% annual churn rate with your early adopters, the average customer is then expected to stick with you for 20 years. But that’s unreasonably high for a business that’s only been in operation for two years, and doesn’t have a solid track record to point to. Instead, introduce a discount rate to bring the average customer life to your expectations based on market standards/etc and align the metrics you’re using more closely to reality

Don’t forget macroeconomic factors
Your inputs shouldn’t be detached from the macroeconomic reality your business exists in - consider factors like inflation, GDP growth, and commodity pricing, as long as they’re relevant to your business. For example, if your business is manufacturing a new battery technology that depends on zinc, don’t always have zinc at a fixed price. Look at how prices have historically changed year over year, and add some modifiers - but don’t overcomplicate it. 

Ambition vs achievability: it depends on the audience
Your model won’t look the same for all audiences. Your internal model should be realistic or conservative, so you can use it as a roadmap and have some leeway if things don’t go to plan. But the model you share with VCs needs to be aggressive and impressive enough to convince them to invest - rather than being conservative, build a picture of what you could achieve if you had unlimited resources. Put forward the most ambitious plan you can, with the caveat that it still needs to be defensible and backed by  solid assumptions to substantiate it. 

Simplicity is key
Your model needs to balance telling a complete story with telling a comprehensible one. The earlier your company’s stage, the more pertinent this is - you’ll have far less useful data, so you should pick your inputs carefully, simplify where you can, and focus on creating a model that’s easy to grasp and isn’t overengineered. That’s not to say everything should be simple - some aspects will inevitably require more detail, like breaking down your revenue or plans to hire.