Now is a good time to slow your burn rate. The capital markets and the Venture Capitalists (VC)s and debt financiers that use them, have spoken. Investors see a recession on the horizon and it’s time for a mindset shift. Whether you’ve just concluded a successful funding round or not, a brand new challenge awaits you. Spendthrift is out, and frugality is back in fashion. The amount of capital you’ll be able to raise in future, and the frequency of those funding rounds are likely to diminish.[1] To make matters more challenging, it’s probably going to take you longer to complete a capital raise. That means to extend your runway, you’re going to need a laser-like focus on your burn rate to make the capital you have today last longer.
Shifting sentiment
Around six months into the COVID-19 pandemic, a strange thing happened. A funding boom for start-ups took off and gathered speed. It ran until March 2022, and pushed investment to record levels.[2] During the boom, start-ups and scale-ups were primed by their investors to grow. Controlling costs took a back seat.
But now the party is over. Interest rates and inflation are climbing, supply chains are strained and geopolitical tensions are at boiling point. A market correction is underway. The message to start-ups is: preserve cash, cut costs and accept lower valuations if you want VC investment. Start-ups with less than 12 months of runway are being nudged to sell to strategic investors.[3] But what if you can’t or won’t sell? That’s where burn rate comes in.
Money to burn
Burn rate measures how quickly your business chews through capital. And it’s an important metric for start-ups because they often operate at a loss in their early years. So if you’re a non-revenue or loss-making start-up, and you know your burn rate, you’ll be able to calculate how much runway you have before you run out of cash. It gives you a timeline for when you either need to borrow money, raise equity or start turning a profit. Finding the optimal burn rate for your start-up is like walking a tightrope between growth and profit. If your start-up’s burn rate is too high, you could be risking failure by ripping through capital too rapidly without a clear path to profitability. But if your burn rate is too low, you may be spending too slowly and that could allow your competitors to leave you for dust.
Gross vs net burn rates
The difference between gross and net burn rates is easy to remember. Your gross burn rate is the amount of capital your business is spending. And your net burn rate is how much capital your business is losing. Gross burn rates don’t include your revenue. Net burn rates do. So your net burn rate is the one you need to calculate your runway.
Working out your burn rate and runway
In the fast-moving world of innovation and start-ups, burn rates are usually calculated as a monthly total. But to get a more accurate indication, average out your monthly burn rate over a three-month period — longer if possible. In fact, the longer the better.
To calculate your gross burn rate take your total expenses, divided by the number of months when the spending took place.
- expenses/number of months = gross burn rate
To calculate your net burn rate, you need your cash balance at the beginning of a set time period and subtract the cash balance at the end of that period. Then, you divide this amount by the number of months that make up that period.
- (starting balance – ending balance)/number of months = net burn rate
Now to calculate your runway, divide your current cash balance by your net burn rate using this formula.
- cash balance/net burn rate = cash runway
The answer you get is how long you have before your start-up runs out of cash. There’s no hard and fast rule for how long your runway should be. It really depends on the stage your business has reached, and how far away you are from profitability. But generally speaking, 18 months of runway is a reasonable length to aim for, [4] especially as start-ups with less than 12 months are currently being urged to sell up.
Ways to cut your burn rate
Your net burn rate’s size hinges on how much money your start-up is losing per month which in turn determines the length of your runway.
Typically, you’ll have two levers at your disposal to slow your burn rate: cutting your company’s costs or bringing in more capital. Your business can bring in additional capital by increasing customer sales, raising equity or borrowing money.
Thrive on thrifty
If your start-up isn’t generating any revenue yet, your only avenue to bring down your burn rate is to reduce your outgoings. So let’s look at what your best cost savings options are.
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Cut unnecessary expenses
Go through your expenses with a fine tooth comb and weed out any that are not essential for your core business goals, such as entertainment and side projects. Once you’ve done that, drill down into the items you need to spend on, and explore whether there are cheaper or free solutions you could be using instead, e.g. coworking hubs instead of leasing office space. But be careful, you don’t want to cut costs so much that inefficiency creeps in, and with it, hidden costs such as reduced productivity.
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Institute a hiring freeze and reduce headcount
If money is tight and recession is in the air, a hiring freeze is a smart move. And if you have any staff that aren’t able to add value and increase your speed to market, let them go. Recessions and deadwood don’t mix. They spell bad news for cash-strapped start-ups.
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Revisit your cash flow and accounting policies
Are your customers paying you on time, every time? If the answer is no, make it a priority to follow up on any late or unpaid invoices vigorously. And when it comes to paying your suppliers, don’t settle your invoices until they are due for payment.
Capital gains
In any business, there is only so much cost-cutting you can do. Getting more money in the door is crucial, and strategically it’s setting your venture on a pathway to future profitability.
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Grow your sales
If you’re revenue-generating, attracting new customers and increasing sales to existing customers should be a top priority.
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Attract investors
Although it’s not a great time to raise equity, it’s not impossible either. Remember we’re in a bear market so be prepared to accept a lower valuation and give up a larger share of equity in return for the investor capital you’re seeking. Depending on your business stage, equity crowdfunding is an avenue worth exploring until the looming slump passes. For the latest tips on raising capital and attracting investors in a downturn, see our article, Raise capital in a recession and get investors hooked.
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Debt and alternative finance
It can be hard for start-ups and early-stage ventures to access business loans from high-street banks. Alternative lenders including peer-to-peer financiers such as Prospa and revenue-based finance such as the loans offered by Tractor Ventures are increasingly meeting this gap in the financing market. But if your start-up is non-revenue generating, funding from these categories of alternative lenders will most likely be off the table too. If you’re undertaking research and development, that’s where R&D financing from Radium Capital can help. There’s no upper or lower limit to the R&D loans we offer. If you are eligible for the R&D tax incentive (R&DTI) refund, you are eligible to apply for a Radium Advance.That means we can help you access your expected R&D tax refund in just a few business days, whether you’re early-stage and have no revenue or whether you’re a late-stage start-up or scale-up.
Finding affordable, reliable capital
Even if your start-up or scale-up successfully attracts investors during the current global downturn, you’ll be giving away more equity, at a lower price, than during the boom times. So why not explore what your R&D financing options are with Radium Capital? R&D finance can fulfil many purposes for innovation businesses. The funding can be a crucial source of capital to extend the runways of businesses without investors. Or these R&D loans can be part of a diverse funding strategy for ventures with equity backers. Indeed, many clients tell us that not only do Radium Advances extend their runway and give them greater financial stability, having our R&D financing in their capital stack makes raising capital easier.
Our Radium Advance lets you access up to 80% of your expected R&DTI refund in just a few business days. We offer fixed, affordable interest rates with no upfront fees or repayments until your R&D refund arrives. Reach out to a Radium Capital R&D finance expert today and access our flexible, scalable capital to slow your burn rate and extend your start-up’s runway.
[1] Forbes. 2022. What The High Interest Rates Mean For Startup Founders. [ONLINE] Available at: https://www.forbes.com/sites/forbestechcouncil/2022/05/04/what-the-high-interest-rates-mean-for-startup-founders/?sh=6186a9066691.
[2] Techboard. 2022. FUNDED August 2022 – Techboard. [ONLINE] Available at: https://techboard.com.au/funded-august-2022/.
[3] https://pitchbook.com. 2022. ‘Put up the for-sale sign,’ more VCs tell founders as market sours. [ONLINE] Available at: https://pitchbook.com/news/articles/mergers-acquisitions-vc-startups-sale-falling-valuations.
[4] How to calculate burn rate (the right way!) | Airwallex AU. 2022. How to calculate burn rate (the right way!) | Airwallex AU. [ONLINE] Available at: https://www.airwallex.com/au/blog/how-to-calculate-burn-rate.