Amid global economic uncertainty, market analysts remember that September is historically a touchy month for stocks. Reuters/Brendan McDermid

Startups find themselves grappling with a vastly transformed economic landscape compared to the preceding decade or so. The Federal Reserve's low-interest rate policy that had endured since the aftermath of the 2008 financial crisis opened doors for startups, granting them abundant access to capital while fostering an ethos that championed growth above all else.

Now, the era of easy monetary policy is over, and the Fed's rate hiking cycle that began in 2022 has created a myriad of economic headwinds for startups. This shift has been most evident in fundraising. Across the board, deal-making activity is down, and credit has become more restrictive, impacting both public and private markets. Today, startups have a narrower path to securing funding through their growth stages as they balance expectations for delivering growth-which is still a priority for VC funding — with a clear path to positive cash flow.

Startups have a higher bar to secure debt funding, and they may need to concede more to lenders with higher interest and restrictive covenants. The decisions between funding through debt or equity have therefore become more complex. Adding to these complications is a shifting political environment, with many new legislative efforts seeking to limit institutional investor considerations to solely pecuniary factors when making funding decisions.

In these times, startups must execute at multiple levels. They must understand their revenue drivers and their costs better to optimize and reduce expenses and focus on items like capital expenditure and working capital management to improve free cash flow to the firm. All these metrics require data from financial systems and professionals to interpret them.

In a time of easy monetary policy, startups could outpace their mistakes with cheap funding and rocket-fueled growth. But in today's economic uncertainty, startups must prioritize the science, analysis and collaborative dissemination of their business data to compete for capital and market share.

Take Command of Cost Data

Startups have always relied on data, without which they cannot survive. But until recently, more focus was put on data around revenue growth drivers. Over the last year, the focus on costs has increased significantly. Any company that does not optimize its operations through proactive cost controls will have a hard time raising funds and growing. Any company initiative should be evaluated by calculating the incremental cash flow impact, accounting for both revenue and costs rather than only the incremental revenue perspective.

To maximize profits, firms must understand how costs vary with output in the short and long run. This is particularly important in a high-interest rate environment. The marginal cost of funds has increased dramatically over the last year. Inflation has also ramped up the cost of inputs. Labor markets, particularly for skilled labor, remain tight, so incremental labor costs will be higher for the foreseeable future.

For some (but not all) startups, it may be more profitable to sacrifice some top-line revenue expectations and focus on slower, organic growth. Attempting to lift the top line with an unreasonably high incremental cost of capital or an uncompetitive value chain will ultimately erode profitability, squeezing free cash flow. Deciding whether to increase output to reach revenue goals — and how much to increase output by — requires command of incremental cost and cash flow data. It has only become more paramount in this macro environment.

Focus on Cash Flows

Once companies understand how costs impact their revenues and margins, they can begin to focus on managing working capital and maximizing their cash flows. Startups can learn a lot from companies like Amazon on how to manage working capital and use it to drive growth. Amazon usually pays the merchants in 60 to 90 days, even if it collects the money from the customers upfront via credit cards. This has given it a big advantage in successfully managing cash flows and using them to fund growth. Another example is PayPal, which has a significant volume of its payment processing volume going via ACH. This method generally costs $0.3 to execute, but PayPal charges a fee of around 2.9% + $0.3 for the transaction processing in line with other payment processors. This gives PayPal a significant advantage in operating margin with predictable cash flows.

To manage working capital and cash flow decisions, startups should embrace the data provided through unit economics. Each operational and business process should be supported by a framework of unit economics, where the business unit is evaluated by how much cash is coming in and out. This often leads to reorganizing internal processes and optimization of the value chain. This framework can also help identify new areas for business growth. More importantly today, unit economics can lead to better decisions when managing business downturns, helping startups navigate economic uncertainty by shuttering unprofitable business units and investing in emerging growth drivers.

Build a Data-Focused Culture

Businesses of all sizes generate vast amounts of helpful data, but without a collaborative culture, much of that data remains underutilized. Startups have an inherent advantage here. Larger corporations are subject to their own ingrained culture and a set of systems and processes that have developed through various phases of growth and contraction. Startups, on the other hand, have a culture that is still developing and can be easily influenced by emerging leaders within the organization. Most executives understand the importance of investing in talent and building strong teams, but the leadership within startups would be wise, when constructing their teams and processes, to foster a culture of collaboration among functional areas through data science.

Finance teams, in particular, should embrace data science, as finance professionals play a pivotal role at startups by creating control processes, evaluating capital requirements and providing executives the inputs to drive intelligent decision-making. The collaboration between finance and data science teams is vital for comprehensive decision-making. Building teams with expertise in data analysis and data science enables startups to extract maximum value from their growing data assets. Teams that possess a combination of technical skills and domain knowledge can foster collaboration and ensure the effective utilization of data across various functions within the company.

Data also plays a crucial role in identifying and growing profit centers within a startup. By analyzing customer behavior, market trends and operational efficiency, startups can pinpoint areas with the greatest growth potential. Data-driven insights enable organizations to optimize resources, allocate investments strategically, and develop targeted marketing and sales strategies to drive profitability.

Startups that embrace data have some helpful traits in common. Data-focused cultures practice effective data hygiene, which is crucial for finance teams to build accurate and reliable forecast models. Finance teams should establish a regular cadence for updating their models monthly, which allows organizations to incorporate the latest business developments, market trends and economic indicators. This frequent data refresh helps prevent outdated information from skewing the accuracy of predictions.

A data-driven culture also incorporates systems for questioning assumptions underlying financial forecast models. This includes stress testing models under various scenarios, such as unexpected interest rate fluctuations or economic downturns. By subjecting the models to rigorous stress tests, startups can assess their resilience and identify potential vulnerabilities. This proactive approach helps mitigate risks and allows finance teams to adjust their strategies accordingly.

The Takeaway

In an environment of economic uncertainty, startups that prioritize the science, analysis and collaborative dissemination of financial data will be better positioned to compete. By integrating financial insights into their decision-making processes, startups can navigate the evolving economic landscape with greater confidence and resilience. By embracing data-driven strategies, startups can carve a path to sustainable growth and profitability amid the broad possibilities of challenges and opportunities of the next economic era.

Abhinav Swarup, a FANG and startup finance leader, currently serves as the vice president of finance at Zeus Living.

(Opinions expressed in this article are the author's own.)