A Startup Guide to Burn Rates: Your Questions Answered
When you’re starting a business, you face a vast array of decisions. One of the key ones is understanding what burn rate means and how to manage it. After all, this key metric impacts decisions from where to allocate resources to how much money you’ll have available for operations.
In this article, we answer all your questions about burn rate, with the aim of helping startups better manage it for a successful launch.
What Is a Burn Rate?
Burn rate is the rate at which a company uses up its available cash. It’s usually expressed in terms of a month—for example, a burn rate of $50,000/month means that a business spends $50,000 on things like salaries and other operational costs in one month.
Burn rate can be measured in two ways—gross and net. Gross burn rate includes all expenses related to a company’s operations, while net burn rate takes out the influx of cash such as revenue and investment.
Why Is Burn Rate Important for Startups?
Most startups rely heavily on investment. Without this, a startup won’t be able to survive for very long as the expenses start to stack up. That’s why it’s so important for startups to have enough resources and have a plan in place to manage their burn rate when launching.
Since most startups rely on investment, understanding their burn rate is essential so they can accurately predict how long their resources will last. Without this knowledge, a startup could end up running out of resources early and be forced to close their business.
How to Calculate Burn Rate
The formula for calculating burn rate is simple—it’s the total expenses (“burn”) divided by the number of months it takes to spend that money. As an example, let’s say a startup’s total expenses are $25,000/month. This means the burn rate is $25,000/month.
Gross burn rate is calculated the same way, except with gross expenses instead of net expenses. In other words, gross expenses include both operational expenses and inflow of cash such as investments.
How to Use Burn Rate to Plan for Long-Term Success
Now that you understand what burn rate is and how to calculate it, you can use it to help plan for long-term success. Generally speaking, the goal of a startup is to achieve an acceptable burn rate, which is the rate at which a company spends its resources in order to sustain itself and gain traction.
One way of doing this is to use burn rate as a barometer of progress. Keep track of your burn rate and compare it to prior months to see if your expenses are decreasing over time. The key is to reduce your burn rate while still investing enough resources to help your startup grow.
Another way to use burn rate is to compare it to industry standards. Doing this can give you an idea of where you should be spending money in order to get a good return on your investment and ensure long-term success.
Tips for Managing Burn Rate as a Startup
Burn rate management isn’t easy, but there are some tips you can use to help get it under control and achieve success.
First, focus on customer acquisition. This is the key measure of growth for any startup, and managing your burn rate lets you invest in it more. When you have more customers, you can reduce your expenses and sustain them more easily.
Second, track your burn rate religiously. Plotting and tracking your burn rate will help you identify problem areas and know where you should be adjusting your budget and resources.
Finally, use burn rate to optimize cash flow and long-term success. Know when you should be increasing and decreasing expenses, and use the guidelines above to adjust your expenses accordingly.
Burn rate is a critical metric for startups that helps track their monthly expenses and plan for long-term success. This article outlines all you need to know about burn rate—what it is and how to calculate it—in addition to providing tips for managing it and optimizing cash flow. By following these guidelines, startups can increase the chances of success even when resources are limited.
