Hiring a Startup Chief Financial Officer: When and Why to Hire One

The value of having a CFO on staff is a hotly debated topic for young companies. The debate is centered on the cost of hiring a CFO with experience at this early stage.

Toptal Finance Expert Scott Brown, who has adapted Maslow’s Hierarchy of Needs for this purpose and borrowed elements of it for his framework, explains how startups can think through this issue and make this decision.

The Great Debate

It is hotly debated whether a CFO can be of value to a new company. Many people argue that CFOs are not necessary and that a small team of savvy, trained financial professionals can meet the needs of a business. CFOs, on the other hand, bring a more strategic and deeper financial perspective to the table that can help companies prepare for the future while optimizing their current operations.

To successfully navigate through this dilemma, a business must first understand the roles, needs, and paths that it is likely to face. Most successful companies eventually outgrow the initial accounting staff and will need more depth as the financial function expands. Companies can reduce their risk by predicting their future needs in advance. They will get the services they need when they need them without overspending.

In reality, the real question is not how long you can survive but when you will start to benefit from an experienced financial leader. My 15+ years as a financial director and consultant have taught me that the best way to determine whether a company should hire a CFO is to assess where they are on “the hierarchy needs,” which I will explain below. This analysis will help companies identify where they stand in the Hierarchy and guide them to the hiring options that best meet their current needs.

Financial Hierarchy and Needs

As the needs progress, so do the skills and the insight required to satisfy them. The skills and understanding needed to meet the needs increase as the markets do. Basic needs can be met through technical training. However, more advanced requirements add a strategic element that requires extensive business experience. The needs of different businesses grow at different rates depending on the industry, market opportunities, ambitions, and resources. A need can’t be met without addressing a previous need.

Level 1: Transactions

A business’s most fundamental need is to be able to carry out transactions. When I say conduct transactions, what I mean is buying and selling products and services as well as entering into contracts.

This is what I call Checkbook Accounting. Anyone in a business can do this without accounting or financial expertise. This involves recording only the transactions in a checkbook and using the difference between the opening and closing balances to determine the financial health and success of a company.

Checkbook accounting has many advantages. It is cheap and requires minimal effort. This can be done very quickly and without specialized resources. This is a good option for businesses that are just starting. Even with basic transactions, however, many companies are in trouble because they use checkbook accounting instead of “real” accounting.

This may work for a fledgling company for a limited time, but it is not sustainable. It will not help any business survive or thrive.

Level 2: Record-Keeping

Accounting is based on the recording of transactions. A bookkeeper can do this, or an accountant can do it if the complexity of the transaction increases. Owners can fill this need if they have the time and skills, but they must be aware of opportunity costs.

A bookkeeper’s role is to record transactions from sources such as inventory and bank balances. A bookkeeper is usually managed by an accountant external to the company or by the owner. Outsourcing bookkeeping gives businesses more flexibility but also requires detailed communication and review.

Both a bookkeeper and an accountant are concerned with recording historical transactions in varying degrees. However, an accountant is trained to a higher standard. They are able to ensure that financial transactions have been recorded correctly and accurately with this training and education. Accounts should be prepared by accountants in accordance with GAAP and meet the reporting requirements for a company seeking external financing.

I recently worked with a client who had excellent GAAP-compliant record-keeping in an early-stage company. They also surprised me because they had a full catalog of all their contractual obligations. Although there were not many, the founder of this company was a former chief financial officer and knew that investors and lenders would demand full disclosure when the time came. They are much better prepared for a capital raise if they record their contracts from the beginning.

It makes sense for businesses that want to have greater oversight, but without incurring significant costs, to hire an external resource to review the work of the bookkeeper. This is especially true if the leadership, like my client, does not have accounting expertise. This service can be combined with tax preparation or provided by a fractional CFO.

Fortunately, for cost-conscious firms, this has changed significantly over the last decade. It’s no longer a world of manual data entry. Many of these tasks have been replaced with software and other IT resources. It has implications for a company’s cost structure, as software can replace labor.

In general, businesses at this level of the Hierarchy can do without a CFO. The main requirement for a business is to record the transactions that it performs accurately. This task can be achieved by either in-house employees or part-time workers.

The Fintech Illusion

The focus of accounting systems has shifted away from manual data entry and towards ensuring the quality and the way data is captured.

These software applications, if not implemented properly, can lead businesses to believe that the data in the system is accurate, even if it’s not.

Fintech adoption has, in many ways, become the new checkbook-based accounting for many businesses. The accounting data is the shoebox full of receipts that are still present but do not add value.

In order to avoid this, the accounting system and operational interfaces must be set up by someone who has a good understanding of accounting principles. Quickbooks is one of the leading accounting software solutions. States that as your business grows, you may not have the knowledge or time to manage your finances. Accountants can be invaluable when it comes to avoiding compliance and legal issues.

It is at this point that a company would benefit from bringing in an external consultant to make sure that the applications have been integrated correctly and that policies are set up that ensure the use of the applications supports financial reporting.

Recently, I was consulted by another company to fix an inventory tracking software that had been implemented incorrectly. The company experienced rapid growth during its first four years of operation but failed to set up the sales tax schedules or taxable items properly. The company reported incorrectly a rapidly growing amount of sales taxes over several years.

I worked with my business to correct the implementation and file the corrected return. Unfortunately, the penalty and interest costs were higher than the sales tax for several months. While fixing the performance, other improvements were identified and implemented. Through their accounting system, the client can now better report on real-time profits by product line. The client has also been able to use this information to adjust its product mix, saving the company significant amounts of money.

The project was a good example of potential fintech problems. Even well-connected IT-based financial systems will need to be reviewed regularly for data and account reconciliations. This requires not only an understanding of accounting but also the ability to integrate operational data into financial records.

Level 3: Trusted Reporting

After transactions are properly accounted for, a company can begin reporting the activity of its business. Reports are now grouped by business line (e.g., the revenue and cost of the sales department) or task (e.g., customer service) rather than simply reporting transactions (e.g., revenue).

Fintech has also made comprehensive reporting more accessible and robust than before. In recent years, business schools have evolved to ensure that graduates have a solid understanding of fintech and its many applications.

It is, therefore, important to understand how reports will be used before implementing a reporting system. Reporting for internal purposes does not require the same level of accuracy and review as external reporting. The information can be formatted in different ways depending on the way the activity was recorded. But always remember: “Garbage In = Garbage Out.”

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