Importance of financial discipline and compliance in early stage startups

Early-stage founders often treat finance and legal compliances as afterthoughts and consider them relevant only for late-stage companies.

Compliance and fiduciary discipline should be ingrained in the startup's DNA right from the beginning. In this article, we highlight common mistakes made by founders:

1. Not reconciling cash with P&L: Cash is the ultimate truth. While different business models require revenue recognition differently, cash is what decides the runway. Reconciling bank statements with cash balances indicated in financial statements is a fundamental control check that should never be overlooked. We at Guild follow the practice of regularly reviewing and reconciling cash flow with financials every week, ensuring accurate liquidity metrics are visible to stakeholders.

2. Treating Compliance as a one time process: Compliance controls should not be reserved only for fundraising events. Founders must work on compliance every month at the minimum, or run the risk of too little too late. Balancing external experts and in-house capabilities is crucial, and the quality of advisors should meet the industry's best standards.

3. Not balancing outsourcing and in-house capabilities?- While it is acceptable to outsource compliance functions to external parties initially, it is essential to build these capabilities in-house as the company scales. Over-reliance on external parties can become a bottleneck in the long run, hindering agility and responsiveness to changing compliance requirements.

4. Not considering long-term impacts of ignoring compliance?- Focusing solely on short-term cash flow optimization without considering long-term impacts can be harmful. Ignoring long-term consequences may lead to lower employee morale and confidence in the startup. Additionally, it might attract regulatory scrutiny, which can harm the company's reputation and growth prospects.

5. Not factoring in the true cost of non-compliance?- Compliance is often seen as a low-cost item, but the consequences of non-compliance can be significantly high once a breach occurs. Founders should be transparent with investors and advisors about compliance efforts and challenges. Treating compliance as a critical Board agenda item allows experienced Board members to guide and provide alternatives for prompt course correction.

6. Not staying informed on regulatory changes?- The regulatory environment constantly evolves, and founders must remain aware of the latest updates. Being well-informed about regulatory changes can turn challenges into opportunities, such as accessing government subsidies, tax breaks, or lower tax rates. Proactive awareness of regulatory changes can give the startup a competitive edge.

7. Not driving improvement of reporting quality?- Quality reporting is an ongoing journey for startups. Founders should understand that reporting is not a one-time task; it requires constant improvement. Leveraging insights and inputs from investors and advisors on best reporting practices enhance transparency and credibility, which are essential for attracting further investment.

In the fast-paced and ever-evolving startup ecosystem, finance and legal compliances are crucial in ensuring a company's success and growth. By incorporating best practices and avoiding common compliance mistakes, founders can position their startups for sustainable growth and build a strong foundation for success.

Shashank Singh Divij Gupta, CFA Nikhil Patil