Three financial best practices for startups

Navigating the financial landscape for any business is difficult, but especially so for startups. Here are some financial best practices to keep you on the right track. 

Running a startup is a balancing act. You're in charge of handling every aspect of the business, hiring the right people, and keeping everything on the right side of the law.

One of your most important jobs as a startup founder is money manager. Capital is the lifeblood of a startup. If you don't learn to manage your money early, your company will die.

Properly handling finances can extend your runway and give you more time to work on your business. Here are three financial best startups to help you make better moves with your money.

Separate business and personal finances

As an entrepreneur, you're probably brimming with excitement about your new idea. In that excitement, though, make sure you do not make careless mistakes with your money. One of the biggest mistakes you can make is to mix up the financials of your startup with your personal cash. This isn't to say you can't use existing capital to partially fund the business, but you should open a dedicated checking account for the business itself and conduct all transactions through that account.

If you fail to properly separate your personal and startup finances, you could deal with potential tax problems depending on how you incorporated and could face trouble raising funds later on. At the very least, it will probably create a giant mess.

For example, Rick Coplin, vice president of Community Partner Ventures, used to work with an entrepreneur who hired a programmer and a designer for website development that she paid for out of her personal checking account. For the first couple years, he said, the entrepreneur even used her social security number on the tax forms instead of the business ID.

"We caught this early enough to avoid serious complications in terms of investment, but she had to spend time and resources to correct two years worth of personal and business tax returns."

Think harder about equity

Equity is not just about value. It is also about control.

When it comes to funding, startups commonly exchange equity for capital, giving partial ownership of the company to an investor or investment firm. There's absolutely nothing wrong with raising capital this way, but you have to be sure it's the right move.

These days, there are more ways than ever to secure financing for your startup, and not all of them come with an equity price tag, such as grants and SBA loans. Michael Hardy, a certified financial planner at Mollot & Hardy, Inc., said that many of the startups he works with can get started and operate on a smaller budget than what's generally expected.

"My advice is to use a chunk of your own resources until it's absolutely necessary to get a loan or sell shares of the company," Hardy said.

Another point at which equity comes into play is in exchange for services, or to hire a key executive. Equity is one of the biggest enticements for potential employees, but it shouldn't always be a given.

"A better course of action may be to establish an employee pool with 10-15% of the company equity," Coplin said. "New employees can participate in a program based on their position and potential contribution."

Study the business

This may seem like common sense, but creating a habit out of studying some of the key business metrics of your startup can help prevent issues from arising in the future. Keep detailed records and be sure to consistently review your financial statements.

"Understand the components. Engage a CPA to learn how to look at a balance sheet and be disciplined about going through them on a regular and frequent basis," said Liz Sillay of Waller Lansden Dortch & Davis, LLP.

You're a business, and the goal of a business is to make money. So, start by taking a look at just how much money is coming in — your revenue. But, don't stop there. Think about your revenue in terms of your profitability, or how much money you have after accounting for operating expenses.

"Revenue is the most common number used when describing the financials of a business and for attracting the interest of investors, however, it only tells part of the story of the financial aspects of a business," Coplin said.

Now, if your business is losing money — don't panic yet. You're likely to lose money, especially in the early days. And, investors understand that, Coplin said, but they also expect that, at a certain point, your revenue will pass your costs, and you'll be profitable. Then, hopefully, the profit margin will continue to grow showing that your business is scalable.

"Entrepreneurs who focus on profitability alongside revenue growth early in the life of their business are setting the business up for success," Coplin said.