Early-stage biotech and life sciences companies focused on developing therapeutics, diagnostics, medical devices, or providing contract research services rely on every single dollar. And like many founders before you, you may be starting with very little in the bank. Especially when considering how much it takes to build a company in the healthcare and life sciences sectors.
If you plan to make the greatest impact with the least amount of money, then that leaves little room for vague financial planning or surprise cash shortfalls. However, budgeting and forecasting can often be daunting to a first-time founder or new founding team.
Despite the challenges, it’s essential that you and your team know exactly how much cash your company has on hand at any given time, from cash in the bank to cash in hand. How do you do that? By creating a budget.
If you don’t have any previous information or data to go off of, you will have to use your best guesses and estimates on income and expenses to create the budget.
It is important to note that, while articles like this are a great way to start learning about startup budgets, your budget plan, budgeting strategies, and financial forecasting will ultimately be unique to you and your business. This is not a “set it and forget it” or “one size fits all” kind of situation.
For this reason, many startup founders often seek out mentorship or classes. If you’re interested in taking classes or working with an advisor/mentor, then we highly encourage looking into programs like SCORE, an organization of retired executives from a wide range of industries and backgrounds.
The program connects business owners—depending on their background—with experienced executives in their respective fields (or closely associated). Additionally, if you are in academia, a large number of universities offer entrepreneurial classes at low to no cost. Taking a business finance or budgeting class at a local college or junior college can significantly help you prepare for creating a budget/financial plan.
In this article, we will cover the importance of biotechnology startup budgets and financial models, and provide you with a high-level primer to the significance of documented, official budgets.
Having a clear understanding of your financial position and spend will allow you to make more informed decisions about cash, and will even help you pitch your company more effectively to venture capital investors and pharma partners or buyers.
Why Does Having a Budget Matter?
In the life sciences industry, building a budget, estimating your startup costs, monitoring your cash flow, and staying lean from day one is critical to creating an operationally healthy and successful lab in both the short- and long-term.
A budget is a simple breakdown of how you plan to use your capital and cover expected business costs, and is essential to a business no matter the stage of development.
If you have yet to launch, a budget can be an excellent tool for determining how much money you’ll need to make it through the first few months, and can serve as a realistic projection of your startup costs using your market research and best estimates. Without a roadmap like this, you run the risk of running out of cash too early or spending funds ineffectively.
Once you are up and running, your budget can then become an effective analytics tool. You’re able to see how you’re actually allocating resources and whether your team is spending and earning the way you envisioned. It will help you discover important questions and act on identified opportunities for cost-savings and business investments early on.
The bottom line? Budgeting is crucial to your company’s success. Doing so correctly helps you avoid early financial missteps and make better decisions in the long run:
- You can use your budget to determine when expenditures like hiring employees and leasing or buying equipment makes sense.
- You can use it in project management to more effectively spend on mission-critical tasks
- You can finance to scale using actual business data (once accumulated) and avoid fundraising too early or over-borrowing.
- You can predict cash shortfalls and line up funds or even negotiate with suppliers and lenders early.
- You can better estimate your break-even point, or BEP (the production level at which total revenues for a product equal total expenses) and adjust as needed.
- You can pinpoint extra cash or retained earnings and develop a plan for them (in the case of extra cash, this can be used to build your startup’s emergency fund or file additional intellectual property applications.)
- You can generate accurate financial statements, like a balance sheet or income statement, to share with investors and lenders.
What You Need to Start a Budget Plan
The importance of accumulating data and analyzing results when it comes to budgeting is often overlooked. And while creating a budget can be daunting the first time around, it’s well worth the time. To make the process more approachable, think of it as five different steps.
First, however, you’ll want to determine which tools you want to use. You can create it manually or with budgeting software such as Quicken or Microsoft Money. Other software, such as Microsoft Excel or Google Sheets, provide user-friendly budgeting options as well. There are also many free startup budget templates you can utilize in the beginning.
If you decide to budget using software, make sure to choose one with an intuitive layout and the timeline you need (typically plan for a year), and begin entering sample numbers into the spreadsheet in order to test the formulas. This way, you won’t risk countless hours of inputting data only to find out that the spreadsheet doesn’t work.
Set a Goal and Begin Budgeting
Setting an upfront budget goal can help you stay on target as you tally up your various purchases. Don’t forget to factor in a starter emergency fund. Many experts recommend having cash for at least three months’ expenses. Even if that is out of reach for you at first, save what you can for the unexpected, as startup budgeting almost never goes 100% according to plan.
To begin budgeting, many founders will start with expenses because they are typically much easier to predict. Using this approach, we will add up essential costs first. (This is assuming you have yet to launch your company)
Step 1: Add Up Your Essential Costs
What costs are essential to getting your doors open? Before you start doing business, there will be a number of one-time expenses that you will need to make in order to get your company off the ground.
These costs, which can vary from industry to industry and company to company, usually include items such as business registration fees, organizing fees, lab space, equipment, raw materials or inventory, patents, trademarks, employees and other personnel costs, computers and software, and more.
Many of these essential costs are fixed, although some can be considered variable costs. Regardless whether they are fixed or variable, breaking them out into a separate category will help you determine how much you will need to pay in order to start doing business.
If you have already launched your business, skipping this step is fine.
Step 2: List Your Fixed Costs
Once you’ve identified your business expenses and how much they’ll cost, you should organize your monthly expenses into categories. Start with your fixed costs.
These costs are all the items you pay a clear, fixed price for on a regular basis, whether that is monthly, quarterly, or annually. every month. They are ongoing and are related to running your business. They typically remain the same regardless of your company’s performance.
However, like variable costs, some fixed costs are subject to potential increase or decrease. This depends on certain factors. If, for example, you hire a lab specialist/technician who requires specific equipment to operate, then you need to account for those costs.
It’s important to budget for these situations as well. Fixed costs can include:
- Commercial real estate (rent or mortgage)
- Equipment leasing or purchasing
- Payroll and employee benefits
- Licenses, permits, and certifications
- Accounting or bookkeeping
- Website hosting
- Business communications and other subscription services
- Banking fees
- Other professional services (eg legal fees)
You can often deduct expenses for tax purposes, which can save you money on the amount of taxes you will owe. Remember to keep track of your expenses and talk to your accountant when it is time to file your taxes for the year.
Step 3: Include Your Variable Costs
Now you’ll want to include all of your variable costs. Unlike fixed costs, variable costs can and will increase or decrease depending on how your business is performing or what you wish to prioritize at the moment. They typical change according to production or sales volume, and usually include:
- Raw materials
- Research and development (R&D)
- Shipping and packaging costs
- Contract research
- Advertising and marketing
- Business income taxes
As mentioned, some costs can fall under both fixed and variable costs. These include equipment, professional services fees, and even salaries. For example, your core in-house team’s overall cost may be fixed, however, any team related to manufacturing your product(s) may have to be treated as a variable cost, specifically as overall production or the costs associated with it increases.
If you don’t have any past information on your variable costs and have to estimate instead, consider using your industry averages as a benchmark. Or, if you can consult with an advisor, manufacturer, or contract research scientist, they may be able to provide you with numbers to start.
Step 4: Determine Your Estimated Monthly Sales
There are various income sources that you will use to determine your estimated monthly sales/revenues. The most common sources include sales, savings, and investments or loans. However, this is where creating a budget can potentially differentiate depending on how a company funds its operations.
If you are profitable, how you plan your budget from here can become different compared to if you are unprofitable, or pre-profit in the case of biotech companies in the startup stage. To adjust for that, we’ve categorized these differences under “profit” and “pre-profit” in steps 4 and 5
If You Are Generating a Profit
Businesses that will be or already are generating revenues will primarily focus on calculating a potential profit and monitoring their cash runway. It’s often the case that they started off with a product or service ready for market as well, or have been able to quickly get that product-to-market after launch.
The founders may have even bootstrapped, relying on their own money to launch the company and begin generating revenue.
If your company is generating revenues, you will want to project how much cash inflow you can reasonably anticipate. However, if you’ve just started and have no sales data to go off of yet, the best course of action is to refer back to the expenses you’ve estimated for the first year of your business, and work out how many sales you’ll need in order to cover those costs, or “break even”.
You can also estimate how often your customers will buy your product. Factors here include size of market, market share, and current market conditions. Be realistic about anything that could limit monthly revenue growth.
Being realistic often means creating two projections: one that is optimistic and one that is conservative. In doing so, you allow yourself and your partners, stakeholders, and employees to prepare for both best- and worst-case scenarios.
If You Are Pre-profit
Pre-profit companies, on the other hand, typically include those who have launched without a product or service and are not able to generate any revenue right away.
These are businesses that often have to rely on outside investors, such as seed and angel investors, as well as venture capital firms in later fundraising rounds, in order to launch their business and finance operations while continuing to perform extensive research and development.
Because of this, pre-profit companies may have to plan a little differently than companies generating revenues when it comes to fundraising.
The R&D-focused company should consider having projections for when and how they raise another round of funding, as well as how much money they can reasonably raise in a given round, in addition to estimating a monthly revenue and monitoring the cash runway.
Having that added attention on investments or loans means pre-profit businesses will place more importance on areas of the budget that profitable companies would not.
Step 5: Tally Up Your Costs & Calculate Your Potential Profit/Cash Runway
After adding up all your initial expenses and monthly costs, you’ll have an idea of how much money you’ll need to get started or to continue operating your business. This is a good time to decide which expenses are necessary or discretionary.
For example, do you need to have your own lab space or is it smarter to share? How about purchasing equipment? Does it make more sense to lease in the beginning? Decide which costs are essential, reducible, or unnecessary to your business. Take into account these factors to get a better idea of your needs as you grow.
You will also want to think about the possibility of increasing expenses during this growth. It’s not uncommon for first-time founders to forget to calculate their increasing expenses caused by growth in calculating their burn rate.
With a better idea of your costs, you’ll want to also calculate your potential profit and/or cash runway. How you ultimately calculate this can often come down to whether you are profitable or not.
Generating a Profit
If your startup is profitable from the beginning, or has a product/service to launch with, you’ll want to focus on how much of your expenses are eating into, or will eat into, your revenue. This will allow you to calculate how much cash you would gain on a monthly basis. Using this calculation, you can then decide how and when to reinvest your profits.
However, if it looks like you will lose or are losing money, you need to adjust your expenses to work towards profitability in order to sustain your business.
Startups that haven’t generated revenues, on the other hand, should consider calculating how much of its monthly costs will eat into fundraising as well, or your cash burn rate. What will R&D cost for the next year? How much will it cost to move from preclinical trials into clinical trials?
Your cash burn rate will be used to determine your startup’s cash runway—the time you have to figure out your business before you need to raise more money, hit profitability, or break even. Calculating your cash runway will give you an idea of how long you’ll be able to operate with the capital you currently have.
Based on this calculation, you’ll have an idea of when to begin fundraising again, allowing you to plan to fundraise early enough so that you do not run out of cash before you can secure a new investment.
No Matter What, Learn to Budget for Success
Your budget should act as a flexible plan that lets you adapt to changes and anticipate cash shortfalls. And if you take the time to make a well-defined budget, you’re going to have a much easier time making informed, financial decisions.
This could mean reaching milestones without needing to raise money from outside investors early on. Doing so would help you avoid selling a large percentage of equity in your company (think 20, 30, or 40%) in exchange for a check that equals less than what you’re really giving up.
Through budgeting, you can reach your milestones before having to raise funds, and in doing so, will be able to present investors with hard data, such as market traction and initial revenues. This could lead to a much larger check at the same 20 percent to 30 percent equity.
Final Thoughts? Work with a CPA to Identify Your Next Steps
Every life sciences organization needs to be concerned with its budget. But, handling a budget on your own can be difficult. Regardless of exactly how you budget, we highly encourage you to seek input from your CPA when preparing or reviewing an initial plan.
If you don’t have one working for your company, you may want to consider hiring a CPA to prepare the financial plan for you. You might also be able to involve them in an advisory role.
Whatever the level of involvement, your CPA’s input will be extremely helpful, providing an independent review of your short- and long-term budgeting and financial planning and the potential tax implications.
Before making any legal or financial business decisions, you should consult with a professional who can advise you based on your individual situation.