Starting a business is an exhilarating journey filled with innovation and ambition. However, my own experience of running a DataTech startup for over three years has taught me that innovation and determination are only part of the equation. A solid understanding of financial terms is equally crucial for any startup individual. Navigating the financial landscape of entrepreneurship requires familiarity with key concepts that can empower you to make informed decisions, manage resources effectively, and drive your business towards sustainable success. In this blog post, drawing upon my own entrepreneurial journey, we will peek into the list of essential financial terms that every startup entrepreneur should know.

1. Revenue

Revenue is the total amount of money earned by a business from its primary operations, such as selling products or providing services.

Example: A startup that sells handmade jewelry (lucrative startup business) generates ₹1,00,000 in sales revenue from the sale of necklaces, earrings, and bracelets.

2. Expenses

Expenses are the costs incurred by a business to operate and maintain its activities.

Example: The startup incurs expenses such as the cost of raw materials for making jewelry, packaging materials, employee salaries, rent for a small workshop space, and marketing expenses.

3. Profit and Loss Statement (P&L)

A P&L statement provides a summary of a business’s revenues, costs, and expenses during a specific period, resulting in either a profit or a loss.

Example: At the end of the quarter, the jewelry startup’s P&L statement shows total revenues of ₹1,00,000 and total expenses of ₹60,000, resulting in a net profit of ₹40,000.

4. Gross Profit

Gross profit is the difference between total revenue and the cost of goods sold (COGS). It indicates how efficiently a business produces its products.

Example: The startup’s total revenue is ₹1,00,000, and the COGS, including materials and labor, is ₹40,000. The gross profit is ₹60,000.

5. Net Profit

Net profit, also known as net income, is the amount remaining after all expenses, including operating costs, taxes, and interest, are deducted from total revenue.

Example: After subtracting operating expenses, taxes, and other costs from the gross profit, the startup’s net profit for the quarter is ₹30,000.

6. Cash Flow

Cash flow is the movement of money into and out of a business. Positive cash flow means the business is receiving more money than it’s spending.

Example: The startup receives payments from customers, which exceed its expenses, resulting in a positive cash flow of ₹20,000 for the quarter.

7. Burn Rate

Burn rate is the rate at which a startup uses its capital to cover expenses before it becomes profitable.

Example: If the startup has ₹2,00,000 in funding and its monthly expenses amount to ₹40,000, the burn rate is ₹40,000 per month.

8. Runway

Runway is the time a startup can operate before depleting its funds, calculated by dividing available cash by average monthly expenses.

Example: With ₹2,00,000 in funds and monthly expenses of ₹40,000, the startup’s runway is 5 months.

9. Break-Even Point

The break-even point is the level of sales at which total revenue equals total costs, resulting in neither profit nor loss.

Example: If the startup’s total costs are ₹1,20,000 and its average selling price per piece of jewelry is ₹400, the break-even point is 300 units (₹1,20,000 ÷ ₹400).

10. Return on Investment (ROI)

ROI measures the profitability of an investment and is calculated by dividing the net profit from the investment by the initial cost of the investment.

Example: If the startup invests ₹50,000 in new jewelry-making equipment and generates ₹20,000 in additional net profit due to increased production efficiency, the ROI is 40% (₹20,000 ÷ ₹50,000).

11. Equity and Debt Financing

Equity financing involves selling ownership shares in your company to raise funds, while debt financing involves borrowing money that must be repaid with interest.

Example:

• Equity Financing: Your startup offers 20% ownership to an investor who invests ₹5,00,000. This means the investor becomes a shareholder and shares in the company’s profits and losses.
• Debt Financing: Your startup takes a loan of ₹3,00,000 from a bank to expand operations. You are obligated to repay the loan amount along with interest over a specified period.

12. Assets and Liabilities

Assets are resources owned by a business, while liabilities are obligations or debts.

Example:

• Assets: Your startup’s assets include cash, inventory (jewelry pieces), equipment, and intellectual property (brand logo and designs).
• Liabilities: Liabilities might include loans, unpaid bills to suppliers, or outstanding employee salaries.

13. Working Capital

Working capital is the amount of capital available to cover day-to-day operational expenses.

Example: If your startup has ₹1,00,000 in current assets (cash, inventory) and ₹40,000 in current liabilities (unpaid bills), your working capital is ₹60,000 (₹1,00,000 – ₹40,000).

14. Cash Conversion Cycle

The cash conversion cycle measures how long it takes to convert investments in inventory and resources into cash from sales.

Example: If it takes your startup 40 days to produce jewelry, sell it, and receive payment, while you pay suppliers within 20 days, your cash conversion cycle is 20 days.

15. Capital Expenditure (CapEx)

CapEx refers to funds spent on acquiring or upgrading physical assets.

Example: Your startup invests ₹1,50,000 in purchasing advanced jewelry-making equipment to enhance production efficiency and product quality.

16. Depreciation and Amortization

Depreciation is the gradual reduction in the value of physical assets over time, while amortization spreads the cost of intangible assets over their useful life.

Example: Your startup’s machinery depreciates over 5 years, and you amortize the cost of a patent over 10 years in your financial statements.

17. Profit Margin

Profit margin is the percentage of revenue that remains as profit after deducting all expenses.

Example: If your startup’s net profit is ₹25,000 and total revenue is ₹1,00,000, the profit margin is 25% (₹25,000 ÷ ₹1,00,000).

18. Liquidity

Liquidity refers to a business’s ability to convert assets into cash quickly without significant loss in value.

Example: If your startup can quickly sell its inventory or collect outstanding invoices, it demonstrates high liquidity.

19. Working Capital Ratio

The working capital ratio measures a business’s ability to cover short-term obligations using its current assets.

Example: If your startup has ₹1,50,000 in current assets and ₹70,000 in current liabilities, the working capital ratio is 2.14 (₹1,50,000 ÷ ₹70,000).

20. Earnings Before Interest, Taxes, Depreciation, and Amortization (EBITDA)

EBITDA measures a company’s operating performance and profitability before accounting for interest, taxes, and non-cash expenses.

Example: If your startup’s total revenue is ₹2,00,000, and its total expenses excluding interest, taxes, depreciation, and amortization are ₹1,20,000, the EBITDA is ₹80,000.

In the grand symphony of entrepreneurship, financial literacy forms a harmonious chord that resonates with innovation and ambition. Armed with the knowledge of these essential financial terms, you’re equipped to navigate the intricacies of your business’s financial landscape with clarity and confidence. Remember, every successful entrepreneur’s journey is built upon a foundation of both creativity and financial acumen. Just as you passionately chase your dreams, let these financial terms be your guiding stars, helping you make astute decisions, manage resources efficiently, and steer your startup towards a horizon of unprecedented success. Your journey is marked not only by the products you create but also by the financial choices you make – choices that shape your startup’s trajectory. So, let the symphony continue, with financial wisdom as the conductor, orchestrating a symphony of innovation, passion, and prosperity. Remember, you’re not just building a business; you’re crafting a legacy that echoes through time.

Onward, brave entrepreneur, for your journey holds boundless promise.

#AskDushyant

Note: Information and Example are just for illustration purpose, for more details connect with subject expert.