Pursuing investors is one of the major avenues you can use to finance your business. However, before funding your business, investors must review your financial statements. These statements help them track the company’s key performance indicators.
Investors consider several factors as they review your financial statements, including sales and revenue growth, net profit, profit margin, debt level, and cash flow. These key metrics and your controller services indicate your business’ financial health.
Proper management of your financial statements also helps you develop a deep understanding of investors’ needs and how the numbers influence the life of your business, especially if it is a startup. Recording your financial information accurately and consistently is key to unlocking investor interest.
How Do Investors Use Your Financial Statements?
As discussed earlier, financial statements give investors a picture of your business’ financial standing.
Depending on the industry, they analyze financial statements for different goals. If your business is a startup, investors use different metrics to determine whether your business is a viable investment.
Investors also use your financial statements to analyze trends, compare your financials to direct competitors, make cash flow projections, and evaluate their investment risk. Cash flow is a key metric for investor funding because businesses need enough money to cover daily operations.
What Do Investors Look for in Financial Statements?
There are four main factors that investors look for in financial statements.
Revenue shows how much your business startup brings during a financial year. Income statements also allow a direct comparison of net profit vs. expenses. The revenue before expenses is displayed on the top line of the income statement.
Investors also use financial statements to gauge profitability by comparing net income and expense. Net income is the total sum a business makes after all expenses are deducted. It is also known as the bottom line. Profitability indicates good management and a positive sign to potential investors.
3. Debt Level
Most businesses start with debt. Lines of credit and loans are not a problem, they are a fact of doing business. However, investors need proof that you can repay your loans without affecting the business operations.
4. Cash Flow
As discussed earlier, cash flow is a key indicator that the company can meet its day-to-day operations.
However, low cash inflow and high cash outflow can indicate that you do not have enough in case any problems arise in your daily operations. It might also indicate that the business cannot afford payments if its debt increases.
What Investors Want to See in Financial Statements
So, what are some of the critical pieces of information that potential investors would want to see in your financial statements?
1. Net Profit
Financial statements show a company’s net profit. This is the total amount that the business has left after deducting all expenses. Net profit indicates that the company is making money and is usually a good starting point for many investors.
However, unsustainable profits hurt your chances of getting investors on board more than losses if your business is starting up and on track to profitability.
Some business owners need an in-depth grasp of their net profits. Working with a certified accountant to get your books in order can give you a clear picture of your net profit.
Even if you have a great product or one-of-a-kind service, the bottom line is sales. Investors cannot risk not knowing whether people are willing to buy your products or services. You must establish a track record of making sales before seeking investor funding.
Another factor investors want to see in your financial statement is sales growth. If your statements show an upward trajectory, they are more likely to take on the risk.
While sales are important, they are only useful if you make money. Investors analyze your financial statements to determine your profit margins. They also compare your profit margins to competitor standards and other investments they may have made previously.
Higher profit margins improve your chances of getting investors on board.
If your financial statements show lower margins, get a plan to improve them before looking for investors. If you run a startup, demonstrate the impact of economies of scale on your costs as the business grows.
Remember to compare your financial statements to businesses and companies in the same industry to demonstrate its performance against its peers. For instance, technology companies should only be compared to companies in the tech sector.
4. Cash Flow
Cash is king. No matter how solid your business plans, your business will shut down if you cannot meet operational costs such as payroll or rent. Investors need to see that you have cash available to handle unexpected expenses and capitalize on sudden opportunities.
If you can demonstrate cash flow and free cash flow (the amount of money left after meeting all your expenses), investors are assured that your business will not collapse unexpectedly.
5. Customer Acquisition Cost
Customer acquisition cost is how much your company spends to get one customer. You can calculate it by dividing your marketing budget by the number of new clients. This number can sometimes be large for fledgling businesses.
Established businesses can reduce customer acquisition costs using repeat customers and referrals who are easier and cheaper to acquire.
Customer acquisition costs are important to investors because they show how expensive or affordable it is to get people to buy your product or service. If you operate a niche business or a hyper-competitive business, customer acquisition costs may be higher.
6. Customer Churn Rates
Alongside customer acquisition costs, the churn rate shows when clients stop interacting with your business. A high churn rate means that your business is losing customers fast. A low churn rate may compensate for high customer acquisition costs as it demonstrates steady repeat business.
It also indicates your business is lower risk for investors. High churn rates are common in sectors with heavy competition or long purchase cycles.
You can determine your customer churn rate by calculating the number of recurrent business value your company has lost over a certain period or the number of customers lost.
Debt is important to investors because they will not get their money back if the company goes out of business.
In addition, debt eats into your free cash flow, significantly impacting the cost of doing business. Quick debt ratio is one of the most common debt measures, indicating whether you can meet your obligations. A high quick debt ratio indicates the company has more flexibility and can easily meet its obligations.
8. Accounts Receivable Turnover
Accounts receivable turnover indicates how long it takes for the business to collect money for goods or services sold on credit. It shows investors you are willing to track down due payments. It also shows the financial stability of your customers.
A slow turnover and too many write-offs could indicate that your customers have poor financial operations, increasing the investors’ risk.
9. Break-Even Point
Short-term losses are acceptable to most investors. However, there must be a break-even point where they start to make a return on their investment.
The break-even point is a specific target, and expected sales at that point should cover expenses and catapult your business into profitability.
10. Personal Investment
Investing in the company personally demonstrates to potential investors that you will work hard to protect your investment. If you do not have money in the business, investors might fear that you do not have the focus to protect the business because you have nothing to lose.
In conclusion, investors are always looking for financial health and performance when making their decisions. They use your financial statements to assess the current state of your company as well as future prospects.
Investors look at revenue, debt level, cash flow, net profit margins, customer acquisition cost, customer churn rates, accounts receivable turnover and break-even points to make the best decisions possible.
With careful assessment of these key points and indicators investors can feel confident knowing they’ve made a wise decision.