Are you a founder who’s been asked by your board to pull together something called an “annual operating plan”?
Are you attempting to turn that theoretical hockey stick graph from your Series A pitch deck into a real plan of action?
Did you recently realize that “Budget” is not just a rental car company?
If you answered “yes” to any of these questions, you’re in the right place. Today we’ll cover what the annual planning process is, why it’s important, and some best practices for getting it (close) to right.
As annual planning season approaches for those of us on December year end schedules (T’s & P’s to all the try-hards on, like, February year ends, or whatever) Mostly metrics is launching a FIVE part series on the budgeting process.
Part I: The Kickoff (this post)
Who’s involved in annual planning?
Bottoms up vs tops Down forecasting
Guiding questions and guardrails
Part II: Building sales capacity
Modeling out rep ramp time
Pod ratios: Business Development Reps, System Engineers, and Sales Managers
Quota deployment and over assignment (shhhh!)
Part III: Designing a marketing budget
Modeling Pipeline Coverage and understanding the marketing funnel
Working with your CMO to develop a “GL pick list”
Programs vs People split
Part IV: Costing out the P&L
Modeling headcount as an input, and a driver
Forecasting non-people costs
Developing a mutually exclusive list of expense types
Part V: Bringing it all together
Modeling P&L by cost type vs P&L by department
Checking your outputs: CAC Payback, ARR per head, cash runway
Five year plan tie in
The guide comes from thousands of hours on the job, designing annual plans for multi billion dollar tech companies. And it’s strongly influenced by the hundreds of hours spent with my entrepreneur friends who are building their first budgets.
A quick reminder from Walter.
Why is Annual Planning a Thing?
Annual planning is a forcing function to get the org “in shape” for the company’s next chapter. I’m a big boxing fan, and they say the hardest part of any fight is the training camp leading up to it; the fight itself is really just the culmination of all your work.
Annual planning is similar in the sense that it serves as a “training camp” for the company to “get in shape” for next year. This when you study the competition, get all the stupid questions out, and develop a game plan.
Who’s Involved in Annual Planning?
When we think about company wide planning, it spans five major groups:
Product / R&D
Marketing & Community
Sales
Customer Success
and Customer Support
I tend to think of this as somewhat of a cycle that is iterative and repeats itself, with each function providing feedback to the loop
To start, we need a great product to sell
Then we market its value proposition to our customers and community
If they validate our product, we sell through our sales team
Post sale, they are passed to customer success so they get the most value from the product, which hopefully sets them up for an expansion opportunity
And lastly, we empower our customer support team to solve for any issues that pop up post implementation
Or, more broadly, you can break it into two sub groups:
The product side of the house
And the GTM side of the house
As for this planning exercise, as finance and strategy folks, we’re assuming you already have a great product to sell (can’t help you much there if you don’t, lol), and you just need to figure out how best to staff it, sell it, and support it.
Department heads
The cycle usually starts with the CEO and CFO (which you may be both of at this stage), who discuss high level revenue, productivity, and profitability targets to frame up the mission.
And then it extends to leaders from the Sales, Marketing, Customer Success, Product, Engineering, Finance and People Team.
And finally, it gets approved by your Board (which is probably why you are embarking on this annual planning process).
TL;DR:
Audiences:
CEO and CFO (starting point)
Department leaders (input)
Board (confirmation)
Targets:
Revenue: How much you make
Productivity: Your ratio of people to revenue
Profitability (or burn): How much you make, or lose
Bottoms up vs Tops Down
What we’re going to build in this five part series is called a “bottoms up budget”.
A bottoms up budget is one that’s built using units of revenue and units of cost, and forecasting both out over time using activity based assumptions. In other words, we start at the furthest level we can drill down.
This means doing a lot of Price x Quantity math.
As mentioned above - the CEO and CFO must come up with a “tops down”, back of the envelope budget as a starting point. But you then need to go and build from the bottom to triangulate if that is even possible.
Guiding Questions
Guiding Questions for the CEO and CFO to get everyone in motion:
How fast would we like to grow our revenue next year?
Is this faster than last year? Slower? By how much will the board accept?
How much money can we spend to get there?
How much money do we have in the bank? Are we planning on raising again next year?
How many people will we hire?
How does this headcount growth compare to our revenue growth?
How profitable do we want to be?
The million dollar question
These questions should inform the guardrails you’ll have to stay within as you build your bottoms up plan. For example:
We know we need to grow minimally 75% next year, as we grew 125% this year, and the board won’t accept anything less than that.
We can’t burn more than $5M because we only have $10M left in the bank and are not planning on doing a fundraise this coming year.
We need to get at least 10% more efficient with our revenue per head to show we have leverage in our operating model, which means we can’t hire any more than 50 people.
We need to halve our cash burn from January to December, but aren’t expected to be profitable until the following year.
The Interlock Dance
Using the CEO and CFO’s high level guidelines, Finance then works with each department leader to create a budget envelope, comprised of direct and indirect costs. I’ve found the best way to do this is by creating simple slide templates to collect inputs from them so you can take their inputs and run the numbers.
Leaders present a biz case for the:
New heads they need, phased by quarter, to achieve their priorities
A list of new tools they need to be more productive
Placeholders for the flex capacity they’ll want to use for specialized work via contractors
After completing templates with each leader, Finance rolls up the “asks” and compares to the three company targets we discussed:
Total headcount asks: How does this compare to my target productivity per head?
Productive capacity: How much quota does this allow me to deploy compared to my sales target?
An estimated cost of total resources: What am I burdening my P&L with?
Finance will also orchestrate interlocks between functions with dependent resources to compare asks.
Note: An interlock is a fancy word for agreeing on goals
Product and Engineering: Staffing product and engineering pods for building
Sales and Marketing: Building pipeline to meet sales targets
Finance and Recruiting: Figuring out the capacity and cadence for hiring
Finance is there to ask the questions related to dependencies and point out blind spots
Finally, finance gives each department leader a max headcount per quarter
“Let’s work to stay at or below this max headcount figure per quarter”
How do you use a model to guide decision making in startup building?
If there’s one thing I know, it’s that both your model and my model will both “wrong” at the end of the year. It’s just a matter of how “wrong”.
Ideally the model becomes a living, and breathing document for data based decision making.
If you’re managing your budget right, you’re working off the best information you have at the time, and course correcting on a quarterly basis.
A model should never be the “end all be all,” but rather a set of guardrails you set up to keep the business on track.
That’s where the term “reforecast” comes from.
At the end of each month you should check how your sales and costs are tracking against what you thought.
And ideally you check this against two P&L views
By team (e.g., engineering)
By cost type (e.g., rent)
Your reforecast will become your new “baseline” to work off of after you review each period and course correct as needed.
For example, at the end of the first quarter you now have one quarter of “actuals” and three quarters of “forecast” activity.
At the end of the second quarter you now have two quarters of “actuals” and two quarters of “forecast”. So each period you have more information “in the books”.
In Part V of this series we’ll talk about the metrics you can rely on during these reforecasts to make sure you are on track.
Assigning new territories to sales reps
Bandwidth as a scarce resource
President and General Dwight Eisenhower once said:
“In preparing for battle, I have always found that plans are useless, but planning is indispensable.”
Annual planning is similar in the sense that agreeing upon shared objectives, talking to your co workers about their goals, and analyzing market opportunities is, at the end of the day, more important than what the P&L drops out.
The annual planning process forces the company to align on a set of shared priorities. Said in a less McKinsey manner - it forces people to work on the same shit as one another, and to know what money will be spent on.
At startups, the scarcest resource isn’t money - it’s mental bandwidth. People can only focus their energy on so many things. Annual planning helps you become maniacally focused on the same stuff. And it gives you an evolving baseline to work off of so you can course correct throughout the year.
Remember - money can buy you oxygen, but it can’t buy you execution.
More to come next week as we dig into ***Sales Capacity***.
Parts of this post were adapted from a guest appearance I made on the delicious Software Snack Bites
