A common characteristic of an early-phase startup is that it is all cost. During the early phase, the startup founder tries to build a new product without the certainty of commercial value. Perhaps they even put their savings on the line to get to the product launch, and for most entrepreneurs, that's all they care about.
That's why accounting never crosses their minds. Yet, this can also be the key to measuring how far they've come and if they should continue. Let Unloop unpack the methods of startups and why founders should establish an accounting system early on.
The Startup Method
A startup is a newly founded business, regardless of size and methodology. Until the late 2000s, most people's idea of a startup was just that—a new business. But since then, the idea of creating startups has become standardized and more focused on innovation. That's why people in the business world often associate it with big tech.
But the standard methods of a startup aren't exclusive. So whether you're a budding small business owner trying to launch a new product on Amazon or a group of co-founders creating a better AirBnb, you're most likely following the steps below, consciously or otherwise.
The founder sees the problem or the opportunity in the market, but there's no one offering a solution. If there's anyone offering one, it's ineffective. The founder sees this and knows there can be a better way, so they think of ideas on how to make things better.
They run every idea under the feasibility, profitability, and market reception criteria. Then a shortlist is created and screened until the founder decides on one solution to pursue.
After the founder decides on a solution, they may bring in more people to help materialize it. The team will conduct further research to flesh out the processes and features of the product.
The idea is to develop a product with all the essential features to make it functional. This is called the minimum viable product (MVP) or prototype.
During the beta testing phase, the founder and their team release the prototype to a select group of consumers. These people will use the product and give the team feedback about user experience and possible improvements relative to their needs.
This process can be a continuous cycle for each proposed product. Iteration means going back to the drawing board to make improvements to the product prototype or, if found unviable commercially, to scrap the product and move on to the next.
Iteration usually happens after beta testing, but it can still happen even if the product has already been launched.
Planning Business Structure
Formally founding the startup by determining the legal structure is also flexible. It can happen even before the brainstorming process or after a successful beta testing. This step involves registering the startup as a formal business—usually a corporation—with the founders and the team getting a piece of the initial private stock offering.
The point of legalizing the business is to manage risk. For example, the founders can limit their risk exposure to the shares they own with the startup. The government requires that startups register for compliance and tax payments, while the consumers will see a legalized business as trustworthy.
Formal product development starts when the consumers see value in the product they're testing, enough to pay the price the startup is asking. At this phase, the team has gathered all data from the beta testing and all the necessary iteration data. They're now ready to build the product with more polished features.
Commercial Product Launch
The final phase is when the startup produces the final product and officially enters the market. If it's an application, consumers can download it for a price. If it's a physical product, it's put on the shelves or uploaded as a product listing on a website or an ecommerce marketplace.
Startup Expectations: Why It’s Wise To Do Accounting for Startup Businesses
Based on the methods laid out above, we can build a case for getting your accounting ready as early as possible. Here are some things that happen when you run a startup.
The Development Process Can Take Time
The development will take time, whether you’re innovating a disruptive solution or offering a simple product. Depending on the complexity of the product, it can be days or even years before you build your first MVP.
We've all heard of the adage time is money. So all the time spent renting a co-working space to brainstorm and develop a product will add up and cost the founder. In most cases, they will lose track.
The Startup May Need Rounds of Funding
Funding doesn't always come from the founder. In some cases, the founder may only have an idea, a skillset, and a few people willing to contribute labour. If they want the startup to take off, they'll need outside funding.
The best bet will be venture capitalists and private investors, and they will need to see how their investment is performing. So it's always a good idea to account for the money you're meant to grow.
There Are Stakeholders That May Need a Salary
In a typical scenario, people working in a startup are doing it part-time as a passion project. But once it gets off the ground, things can get more hands-on to the point that most or all the people involved in the project will need to work full-time.
When the founder and their team dedicate themselves to the project like regular employees, they'll need a salary. This means they have to pay taxes. That's where startup accounting can help.
Profits May Take Time To Roll In (If at All)
If there's a single expectation you should have before performing accounting for startups, it is that profits may not roll in soon. Like product development, it can take months or years to realize a positive bottom line.
By establishing an accounting system early on in the startup, you'll know whether you're already making a profit from the day-to-day operations or are still on the road to paying your startup costs before the product launch.
How Establishing an Accounting System Early Helps a Startup
When it comes to startups, the decision to establish an accounting system early on is a low-priority task. That’s reasonable, considering there is no business coming in yet. Everything is a study. It’s only when investors throw big money at it that founders begin to appreciate the benefits of accounting. But let us show you what getting your accounting fixed early will do for your startup.
A Solid Accounting System
For startups, establishing an accounting system can be as easy as subscribing to accounting software and having a team of experts run it part-time. An accountant or bookkeeper recording financial transactions of the startup helps place the foundation of the accounting process that will grow along with the startup.
This means no more headaches about planning the right processes later, as it can get more complex when the startup becomes a medium or large-scale business.
Bookkeeping for Startups Creates a Source of Financial Records
All the financial data should be recorded properly at the beginning. Even if it's all going to the expense account, it can become part of financial reports during the product development phase. This information is useful to the founders and other stakeholders as it gives them an idea of how the business is budgeting its startup resources.
Helps Founders Manage Startup Performance
Once the startup becomes a fully-operational business that earns profit, all the business transactions recorded also form part of the financial statements (i.e., the income statements, balance sheets, and cash flow statements). This information will be essential for evaluating how the business is doing.
Financial statements help owners make important business decisions, such as taking the company public, requesting another round of investments, or closing shop.
Sorts Out the Startup’s Bank Account
Another thing that happens with startups is disorganized finances. Some founders think that the money they toss into their de facto startup is unofficial as it isn't formally registered to any trade and commerce authority. So their personal finances and their startup are one and the same.
Employing an accounting system from the get-go helps founders separate personal and startup transactions. This makes reconciling bank statements and financial reporting for the startup smooth sailing in the long run.
Assists in Paying Tax Obligations
Recall that when founders and the team start getting salaries for their work in the startup, they're obligated to remit payroll taxes, especially if the startup is already legalized.
Once the startup earns significant profits, it may be subject to different taxes. For example, an income tax is an obligation of any business entity. During tax season, they must file income tax returns to stay compliant. Establishing an accounting system early on and having it run by experts will make filing easier and more accurate.
Accounting for Startups Easily Measures Progress
To close, consider that even the smallest projects incur costs. To measure the project’s success, the cost incurred to pull it off is always part of the equation. That goes the same for startups.
So whether you’re in the ideation phase or already on your 100th iteration pre-product launch, an accounting system will help you count your costs. This gives you, the founder, the chance to recoup them.Unloop can help you establish an accounting system that fits your needs, whatever startup stage you’re in. So book a call with us if you want an accountant for your startup business, or check out our bookkeeping services now.