Understanding The Burn Rate Of your Company

TEAM STARTUPED 12 Jan 2022 . 2 min read

    Burn rate-How much cash do you have? How many months will it last? What is the rate at which you spend cash? How long till you run out of money/ need an investment? All these questions should be an essential part of your decisions if you are a startup.

    • What is the cash burn rate?
    Suppose you have $50,000 cash at the start of the year (January) and you are left with $20,000 by the end of March, then your ‘Burn rate’ or ‘Cash burn rate’ is the amount which your company spends in cash on an average each month. In this case, you spent $50,000-$20,000=$30,000 in 3 months, so your cash burn rate is $30,000/3=$10,000 per month. Cash runway is the time in which you would have used up all your cash if you continue spending at your current burn rate. For this example, the runway is 5 months since at the rate of $10,000 per month, you would have finished your $50,000 cash in 5 months. Another way to express runway is ‘cash zero date’, which is defined as the date at which your cash becomes zero.
    • Gross and net burn rate
    Take note of the difference between the two types of burn rate. Continuing the previous example, $10,000 per month is actually the Gross burn rate (the rate at which the operating expenses are incurred). Now suppose that the company also generates revenue of $12,000 in 3 months. The net burn rate is the rate at which you are losing cash. Here, cash lost = cash spent-cash gained=$30,000-$12,000=$18,000. So-net burn rate is $18,000/3=$6,000 per month. However, it is important to observe that the burn rate does not remain constant, it keeps on varying as the rate at which revenue is generated and expenses are incurred keep on changing. If revenue is increasing more than expenses then the burn rate will go down and vice versa.
    • Why it is important to keep an eye on your burn rate?
    Burn rate is essentially calculated for startups – they mostly have minimal or no income in the beginning and it is highly important to know till when will your cash last. More so, it gives you a parameter with which you can compare your expenses and keep them under control. You must know when you need to start planning for an investment, raising money and it should be at least a few months before you run out of cash! Partners and investors are interested in knowing your company’s burn rate to know a little more about your financial situation as it also affects them. So a lower burn rate would be better. A few steps that you can take to keep your burn rate in a reasonable range - boost your revenue, cut costs wherever possible, refrain from venturing into unprofitable projects, make payments later and take payments sooner- to have enough cash in hand. Graphical depiction of burn rates over a period of time will give you a burndown chart, which is an easier way to asses your financial position.

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