You cannot run a marathon with a bleeding leg. You cannot cross the English channel with a leaking boat. You cannot sustain for long enough, if you are to burn more cash than what you generate. Burn rate is a measure of how much money your startup is losing every month. Read on to know more about why you should make that number your best friend.
What is Burn Rate?
In the good old days (read pre dot com era) it was called Negative Cash flow. According to wikipedia, "it is the measure for how fast a company will use up its shareholder capital".
The burn rate can be further split into: - Gross Burn: This is the total amount of money you are spending per month. - Net Burn: This is the amount of money you are loosing per month.
Investors are always interested in your net burn rate, because it is a direct indicator of how long before you burn all your cash reserves. The time you have left before you run out of cash at the current burn rate is called Cash Runway. Usually startups burn up their cash reserves a few times before they achieve positive cash flow.
For some startups having a burn rate is a luxury, because it means there is sufficient cash to burn. The source of the cash can be the founders or the investors who have come on board.
How to Calculate Your Burn Rate?
A very simple way to calculate your burn rate is this: 1. Consider a duration of a few months. 2. Find the difference between the cash balance at the beginning and end of the duration under consideration. 3. Divide the difference with the number of months that you have in your consideration.
This will give you your burn rate.
To illustrate this, lets take Q1 of your financial year. If you are starting Q1 with Rs. 5,00,000 and you are left with Rs. 2,20,000 at the end of it. Your Gross Burn rate is = (5,00,000 - 2,20,000)/3 = Rs. 93,333 per month.
If, let us say you have made Rs. 50,000 every month in Q1, then your Net Burn rate = Gross Burn rate - Income = Rs. 43,000.
Your goal should to bring down your net burn rate to less than ZERO.
More Than a Dozen Ways to Minimize Your Burn Rate
1. Create a Budget and Stick to It
There are two key points here. One is creating a budget that is frugal as well as achievable. And the second point is to do all you need to do to stick to the plan. An excellent plan is not going to save you money if you do not execute it well.
2. Increase Your Revenue
The most obvious and the most challenging way to reduce your burn rate is to increase your revenue and profitability. They are inversely proportional to each other. The more you have money coming in, the more cash that you end up with every month.
3. Outsource Non-essential Tasks
Use freelancers, as much as you can. Using freelancers can get you access to highly experienced professionals at the fraction of a cost of hiring inexperienced full time employees. Hire eager interns who are willing to work for less or for free.
4. Avoid Hiring Full Time Employees
Avoid fixed salary costs. If you do need to hire, be crystal clear about the specific skills you need. Ensure that you get full value and high productivity.
5. Reduce Your Dependence on Costly Software
It is easy to start using cool business SaaS tools like CRM, Accounting, Project Management. Unless you are really big team, you can make do with Google Apps or just plain MS Excel. You can go even more frugal by using free but useful software like LibreOffice and GNUCash.
6. Raise Invoices Sooner and Ask For Faster Payments
When you are vendor to big corporates, 45 to 90 day payment cycles are not unheard of. Negotiate deals that you get you paid in 15 to 30 days. Go in with the mindset that everyone negotiates, at the most they can say no. Adding late payment charges is a very strong way to reduce payment delays by customers.
7. Pay Your Bills Slowly
If your vendors are fine with longer payment cycles take them up on it. Many vendors in the industry and accustomed to long payment cycles. Negotiate to extend your bill payment cycles by as much as you can.
8. Learn To Do Things By Yourself
Although it is not practical to do every activity in your start up by yourself, before you start seeing money coming in, you should try and do everything by yourself. You may hire experienced staff later on, but it is good to know how to do things by yourself, so you can better manage the delegated tasks.
Assuming that you are more of a technology person, some of things that you will benefit from learning are: a. Business book keeping b. Recruiting and HR management c. Sales and Marketing
9. Your Don't Need Designer Office Spaces
Work from home. Encourage your employees to work from home. Share space with other startups, they can help you pay your rent. Look to your friends if someone has free space that you can use as your office. Do not bother with decorated office spaces that you think will impress investors and employees. Focus on comfort and functional space. Get your employees to decorate your office. Give them a small allowance to use for decoration.
10. Strive To Reduce Customer Support Costs
Build robust products that are easy to use. Provide excellent documentation and training videos. Provide comprehensive FAQs on your website. All of these things can lead to tremendous amount of saving product support costs.
11. Keep Your Digital Marketing Costs Low
Conduct low cost experiments to figure what marketing activities get you the biggest returns. The experiments should be designed to help find the optimal way to reach your customers. Once you find the methods that give you the highest ROI, spend your money on only those activities.
12. Crowdsource Your Marketing Collateral
Use croudsourcing services and platforms that can help you create your Logo, Branding, Taglines, Marketing Videos, etc at a much lower cost than what a dedicated service provider charges.
13. Encourage and Enforce BYOD (Bring Your Own Device)
Do not buy office computers. Everyone has a laptop these days. Ask your employees to bring their laptops to work.
Burn Rate is the Second Most Important Metric You Should be Concerned About
The most important metric that you need to convert yourself is the sales turnover. Sales is the lifeline of your business. You should do all you can, to keep your burn rate low. A low burn rate can help you bootstrap your business for a much longer time and thus make your business an excellent venture with a great potential for investors to bet their money on.
There is no harm in repeating again the burn rate formula: Your startup burn rate = (Money coming - Money going out) / Duration of Study
Keep this formula handy. Even better, prominently display your burn rate in your office at a place that your whole team can see. Tell everybody that keeping that number down is everybody's business.