Building an MIS for Your Startup: Part 1
One of the questions I regularly face when I talk to early-stage startup operators is regarding setting up a proper management/investor reporting system. I have been developing and managing the MIS (Management Information System) of a venture-backed startup for around three years. Let’s be honest, building a startup requires fighting a lot of chaos and confusion every day. Ensuring the accuracy of data and getting direction out of it is an incredibly important yet overlooked matter in a lot of early-stage startups. Most of the businesses at this stage focus on developing products and building sales & marketing engines. They forget to look in the mirror to see where they stand. MIS is the mirror operators and investors need to regularly look at to understand their businesses. In today’s newsletter, I will share how to build an MIS for an early-stage startup. I will use an e-commerce business that works as a platform example. I come from an edtech background so intentionally avoided it to ensure I don’t disclose anything relevant to my work.
What is MIS?
MIS is the reporting system investors use for tracking and understanding the business performance of the startups in their portfolios. It is also used by the management team of the startups to help them understand the business and make future action plans. It is a dashboard with all the relevant information that you look at while running your business to make the right choices.
Things to Keep in Mind While Building MIS
Purpose: Exactly why the MIS will be used. This can serve multiple purposes.
Stakeholders: Who will be the users of the MIS?
Process: What will be the process of collecting and analyzing the MIS data?
Accuracy of data: How will it be ensured that MIS becomes the final source of truth for all?
Metrics That Matter
After you have decided on the objective and stakeholders of your MIS, you should dive into the metrics that matter most. Most of the businesses only cover P/L under their MIS but I am a strong believer in having P/L, C/F, and B/S. You can’t have the right picture of your business without looking at these three statements together.
Some of the key metrics in P/L are - gross margin, contribution margins, and EBITDA.
Some of the key metrics in C/F are - net cash flow from operation, operating burn, and runway.
Some of the key metrics in B/S are - cash in hand, current ratio, debt-to-equity ratio.
Now let’s dive deeper on P/L today. I will discuss C/F & B/S in my newsletters in the future.
Developing P/L for MIS
Like all P/Ls, it also has revenue, cost, and profit/loss components. An E-commerce business that doesn’t sell its own product but rather acts as a platform has Gross Merchandise Value (GMV) as its topline item. GMV is the total value of sales over a certain period of time. For businesses that buy/produce their own inventory, GMV is revenue. But for businesses that create platforms for sellers and buyers to do transactions, GMV is not revenue. But in both cases, higher GMV is generally an indication of better business health on the topline level.
Let’s decode how we arrive at revenue from GMV. In the picture above we can see Gross GMV - Cancellation and Refunds = Net GMV. As discussed, we are a platform where sellers can sell products to buyers. We are addressing sellers as “suppliers'' here. We derive our business revenue as Net GMV - Supplier payment. The money we are keeping here is the commission we charge from suppliers which is our effective net revenue.
Then comes the contribution margin 1. Even though we don’t produce anything, we have warehouses and quality control teams to ensure delivery and quality of what we are delivering to customers.
Contribution margin 1 can be found after deducting all warehouse and quality control costs from net revenue. I have tried to add a few examples here like - warehouse staff salaries, rent and management of the warehouse, etc. There can be more or less segments based on the context of your business. You will notice these are direct costs which are related to storing to quality assurance which ends right before we ship to customers.
Then we jump into contribution margin 2 which is about logistics cost and the final step of fulfillment.
In this segment, we cover every cost that is incurred between shipping the product from the warehouse to reaching it in the hands of the customer. We are considering here that we have our own logistics system through which we manage the delivery even though we don’t own the trucks. We can also combine the CM1 and CM2 level costs and keep them as fulfillment costs. I have broken it down here to provide a bit more clarity on the nature of costs.
Then comes the CM3 segment. It is a very important area to understand your customers’ loyalty. CM3 is about sales and marketing costs. Over time it should reduce compared to the revenue it generates if your service is something customers really want.
An important point here is this segment helps you figure out the business’s S&M: Revenue ratio. It is a very important metric to understand if your customer acquisition and retention cost is moving in the right direction or showing signs of continuous high expenditures.
Another point I would like to add here is if you come across a business with good CM1, and CM2 but bad CM3, be careful. It shows that even if people are buying your product and you are doing well till fulfillment, your customers aren’t motivated enough to buy from you. This is why you have to continuously lose money in marketing and sales efforts. It is a sign that the business is yet to be on the track to sustainability.
Then we move into one of the most critical business metrics, EBITDA. It is a highly discussed metric in the startup ecosystem and in the current situation, startups are pushing hard for positive EBITDA.
This is basically a result of subtracting general and admin costs from profit contribution 3. You can see some examples in the photo I have added. Think of all of your indirect costs. Those belong here. It’s an area that doesn’t grow with revenue as much as other cost segments do.
Even though I have seen a tendency among startups to close their MIS at the EBITDA margin level, I believe everyone should dig down till the net profit/loss level. EBITDA doesn’t tell if you are profitable or not.
You can see how many cost segments there are that we fail to look at if we stop exploring after EBITDA.
The final MIS will look like this.
What Do These Segments Really Mean for The Business?
Take Rate in Revenue: The take rate is the fee online marketplaces collect for enabling third-party transactions. It is the amount a business makes from each transaction. You can find the take rate by calculating net revenue/net GMV. You should regularly compare your take rates with competitors. if too low, is it because of high cancellations and refunds (not a good sign), high promotions and discounts (you have control over it, can be seen as an investment to capture the market), or VAT-related implications that you might be missing?
CM1 (Warehouse Cost): You can see it is warehouse-related costs. You should compare your cost per sqft against competitors. What capacity are you running at? 60-80% capacity utilization is optimal. 20-30% is too low. What can be the further room for efficiency in terms of cost optimization? Look at each segment and ask yourself these questions until you are satisfied. Also an important note here. Too many cancellations in cash-on-delivery situations may have a small impact on your take rate, but the real cost is the fulfillment cost you are incurring against zero revenue earned. You are spending money to deliver things that customers don’t even accept.
CM2 (Logistics Cost): These are the logistics costs. Management should simultaneously solve capacity and utilization issues. If your CM2 is negative, the more you grow, the more money you lose. Your pricing is not right. Work on pricing your offerings.
CM3(Marketing & Sales Cost): It is an area where you spend to acquire and retain customers.
Efficiency ratio in this segment = additional revenue generated / additional marketing cost. The ideal is 1 or more. If it is lower than 1, concerns should arise. Is the marketing spend being done inefficiently? Is it not appealing to the TG? Have you not achieved product market fit yet? Are customers not getting the desired value against the money they are spending? You may need to work on marketing channels, product-market fit, value proposition, etc.
EBITDA: It is an area where you can understand how your indirect costs are impacting the business. You need to compare your business G&A regularly with industry standards. Are you spending too much on people and admin costs? Do you need more people or more competent people with fewer overall employees? Are you spending too much on office management and trips? Keep it in check.
Post EBITDA: Depreciation could be a real cost of business if your business is capital intensive and there is an ongoing cost of maintaining your assets. Maintenance capex is needed every year, growth capex is discretionary. Also, check if the depreciation resembles the future expected cost of replacing existing assets. I have seen startups have a tendency to capitalize on multiple cost segments so that they can show improved EBITDA. This shows the wrong picture to the relevant stakeholders. Please ensure the capitalization policy and depreciation policy maintains industry standard and doesn’t follow aggressive accounting methods.
Hope this gives you a good understanding of the MIS development process and how it can help you to make decisions. I will cover the cash flow statement in one of my newsletters in the future. Also, feel free to mail me to discuss if you want suggestions on developing MIS for your business.