Does Your Startup Have Enough Runway?
If you’re a startup founder, you’re probably familiar with the concept of burn rate, and its relationship to your startup’s runway. Burn rate is one of many key performance indicators that help startups understand how quickly you’re spending money, and your startup’s runway, which is how much time you have before you run out of cash. In this article, we’ll take a closer look at burn rate, how to use it to forecast your cash runway, and actions you can take to extend your startup’s runway.
What is a startup’s burn rate?
Simply put, burn rate is the rate at which your startup is spending money. It’s typically calculated on a monthly basis, and takes into account all of your expenses, such as salaries, rent, marketing, and other overhead costs. Burn rate is an important metric because it helps you understand how long you can keep operating before you run out of cash.
It’s easy to see why burn rate is such a crucial metric for startups. Without a clear understanding of how much money you’re spending each month, it’s impossible to make informed decisions about hiring, marketing, and other expenses. If your burn rate is too high, you might find yourself running out of cash before you’ve had a chance to build a sustainable business and may need to revisit your financial model to find solutions.
One way to keep your burn rate under control is to focus on efficiency. This might mean finding ways to reduce your overhead costs, such as negotiating better rent or outsourcing some of your marketing efforts. It might also mean being more strategic about hiring, and only bringing on new team members when it’s absolutely necessary.
Another way to manage your burn rate is to focus on revenue growth. If you can increase your monthly revenue faster than your burn rate, you’ll be able to extend your cash runway and give your startup more time to succeed. This might mean investing in marketing campaigns that have a high return on investment, or finding new revenue streams that complement your existing business.
Ultimately, managing your burn rate is all about finding the right balance between spending and revenue growth. By keeping a close eye on your expenses and focusing on efficiency and revenue growth, you can give your startup the best possible chance of success.
Types of burn rate
There are two main types of burn rate: gross and net. Gross burn rate is the total amount of money your company is spending each month, while net burn rate takes into account any revenue you’re generating. If your net burn rate is negative, that means you’re spending more than you’re making. We go into the different types of burn rate (and how to calculate them) in more detail in this article.
Estimating your cash runway
As an entrepreneur, it’s important to have a clear understanding of your company’s financial health. One key metric is your cash runway (usually referred to as just ‘runway’). Your runway, usually measured in months, is the amount of time that your company can continue operating before running out of cash. You can calculate your runway by dividing your cash balance by your burn rate.
Cash Runway = Cash Balance ÷ Burn Rate
It’s important to consider that your burn rate can fluctuate between periods, and as such can impact your ability to estimate your startup’s runway at any given point in time. Unexpected expenses can crop up, such as legal fees or equipment repairs, which can impact the change in your cash balance between periods. On the other hand, if you secure a new round of funding, your cash balance will increase, which will extend your runway.In order to truly understand how long your startup has before it runs out of cash, you’ll need to forecast your revenue and expenses.
By keeping track of your runway, you’ll be able to make informed decisions about your company’s financial future. For example, if your runway is low, you may need to consider cutting back on expenses or seeking additional funding. On the other hand, if your runway is long, you may have more flexibility to invest in growth opportunities.
How can I control my burn rate?
Controlling your burn rate is key to extending your startup’s runway and giving your startup more time to become profitable or raise additional funding. Here are some tips for controlling your burn rate:
- Cut expenses: Look for ways to trim your expenses without sacrificing quality. Negotiate with vendors, find lower-cost alternatives, or eliminate unnecessary expenses. Make sure not to cut expenses that are directly related to growing revenue, such as marketing or customer acquisition.
- Delay hiring: Your team is important, but adding new hires can be an expensive proposition. Try to delay hiring as long as possible, or consider outsourcing certain functions to freelancers.
- Focus on revenue: Generating revenue is the best way to extend your runway. Focus on customer acquisition and sales to bring in more cash.
- Reduce burn on non-core activities: It’s important to stay focused on your core business activities. Don’t waste money on non-essential tasks that don’t move the needle.
- Stay lean: Embrace the lean startup ethos and keep your team and expenses as small as possible. This will help you stay nimble and responsive to changing market conditions.
10 income statement accounts that impact burn rate (and how)
There are many factors that can impact your burn rate. Here are ten key accounts to keep an eye on:
- Salaries: This is usually the biggest expense for startups. If you have a large team, your salaries can quickly eat into your cash balance. It’s important to pay your employees fairly, but also to keep an eye on your budget. Consider offering equity or other incentives instead of higher salaries.
- Rent: Your office space can be a significant expense as well. Consider sharing a space with another company to save money. You can also consider working from home or a co-working space to reduce your rent expenses.
- Marketing: Advertising, PR, and other marketing expenses can add up quickly. Try to focus on low-cost marketing channels like social media and SEO. You can also consider partnering with other companies or influencers to increase your reach without spending a lot of money.
- Software: SaaS subscriptions and other software licensing fees can be a hidden expense that adds up over time. Consider using open-source software to save money. You can also negotiate with software vendors for better pricing or consider building your own software in-house.
- Equipment: Computers, phones, and other equipment can be a significant expense when you’re first starting out. Consider buying used equipment to save money. You can also lease equipment instead of buying it outright or consider using cloud-based services to reduce your hardware needs.
- Travel: Conference and business travel can be expensive, but also necessary for networking and customer acquisition. Try to balance the cost with the potential benefits. You can also consider attending virtual conferences or hosting webinars to reduce your travel expenses.
- Legal and accounting: Professional services can be expensive, but it’s important to have solid legal and financial advice when you’re running a business. Consider hiring a part-time or freelance accountant or lawyer to save money. You can also use online legal services or accounting software to reduce your costs.
- Insurance: Liability insurance and other types of coverage can be a necessary expense to protect your company and its assets. Consider shopping around for insurance providers to find the best rates. You can also consider increasing your deductibles or reducing your coverage to save money.
- Supplies: Office supplies, materials, and other small expenses can add up over time. Try to negotiate bulk discounts with vendors. You can also consider using digital tools and services to reduce your paper and supply needs.
- Unexpected expenses: There will always be unexpected expenses that pop up, such as equipment failures or legal issues. Make sure you have a contingency plan in place for these situations. Consider setting aside a portion of your budget for emergencies or creating a line of credit with your bank.
Non-cash balance sheet accounts that impact your cash balance (and how)
- Accounts Payable: Higher payables can improve cash flow, reducing burn rate by delaying payments to vendors and suppliers.
- Accounts Receivable: Slow collection of receivables increases burn rate as it ties up cash that could be used for other purposes.
- Inventory: Poor inventory management can result in excess stock, tying up capital and increasing burn rate.
- Prepaid Expenses: Prepaid expenses reduce current cash outflows, providing short-term relief to the burn rate.
- Debt: High debt levels can increase interest payments, impacting cash flow and raising the burn rate. Don’t forget to keep track of when debt has to be paid off; if you pay off a large portion of your credit card debt early it can impact your ability to forecast burn rate and runway.
- Depreciation: Depreciation expense affects net income but does not involve cash outflows, positively impacting the burn rate.
- Accrued Liabilities: Unpaid expenses that accrue over time increase cash outflows, elevating the burn rate.
- Retained Earnings: A low retained earnings balance may signal financial instability, potentially impacting investor confidence and burn rate.
How can I use these metrics to help me fundraise?
Your startup’s burn rate demonstrates your ability to manage expenses and make the most of your cash resources. Investors look at your burn rate to understand how much additional runway their investment in you will provide.
When you’re fundraising, it’s important to highlight your cash runway and explain how your burn rate is helping you achieve your goals. Investors want to see that you’re being responsible with their money and that you have a solid plan for achieving profitability.
By understanding your burn rate and how to manage it, you can improve your financial health and increase your chances of success as a startup founder. If you’re considering fundraising in the future, get in touch with one of the fractional CFOs at Founder’s CPA for help in building your forecast and understanding your burn rate.