Determining When a Startup is Financially Ready for a New Hire

At today’s EO Accelerator accountability group, one of the discussion topics was centered around how to determine when a startup is financially ready for a new hire. Many entrepreneurs are concerned with increasing their cost structure and want to be prudent when adding new people, especially if they are bootstrapping the business. It isn’t always obvious when the financial wherewithal is in place for that next hire.

There are two simple ways to determine when a startup is financially ready for a new hire:

• Growth Plan Assets (GPA) – for companies that sell products or services with limited or no recurring revenue, growth plan assets is the ratio of current assets (e.g. money in the bank plus accounts receivable) divided by the average monthly operating costs over the past 90 days (e.g. all expenses in the past 90 days divided by three). The GPA should be in the three or four range (like a good GPA in college) to know that the business is ready to hire (the GPA can be lower as the percent of revenues that are recurring go up).
• Recurring Revenue Greater than Expenses – for companies with most or all revenue recurring things are much simpler: once the recurring revenues are greater than the current expenses plus the expenses of a new hire, then the startup is good to go. This equation changes slightly if the startup has a bank line of credit and is able to hire in advance of revenue knowing that it will quickly catch up and surpass expenses.

Determining when a startup is financially ready for a new hire is a combination of current financials, sales pipeline, and gut instinct.

What else? What other factors should be included when determining financial ability for a new hire?