April 28, 2021

Metric Deep Dive: Cash Burn Rate

Updated: 5/5/2022

What is Cash Burn Rate?

The cash burn rate metric tracks how much money a company loses in a specific time frame (usually monthly or normalized to a year). Essentially, this metric measures the rate at which a company uses up its cash flow and includes all expenses incurred in that time frame.

Gross Cash Burn Rate

Gross cash burn rate is the sum of all your expenses and cash you spent during that time frame. This includes spend on rent, salaries, equipment, software costs, overhead, and everything else you’ve spent cash on in that month.

Net Cash Burn Rate

Net cash burn rate measures the difference between the amount of cash you had in the beginning of the period and the amount of cash you had at the end of the period. This highlights how much your expenses take away from your cash inflows.

Tip: Make sure you are only including cash that you actually have. Do not include any deferred revenue or revenue that will come in the future since it’s not cash in your pocket just yet.

Monthly Cash Burn Rate

Monthly cash burn rate measures the monthly rate at which you spend cash over a given period of time. This will help you calculate your cash runway (more on that later).

Why is Cash Burn Rate Important?

Calculating your burn rate is crucial to the survivability of your company. Not only does it tell you how much of your cash reserves you’ve used up, but it also is helpful in forecasting how much time your company has before it runs out of cash.

Knowing your cash burn habits will help you make decisions for your company and understand what things need to be cut or added. Burn rates will help you forecast when you are nearing the end of the road and how to steer onto the correct path. Additionally, you will be able to see the efficiency of your spend and see its return based on how much expenses impact your original cash balance.

Burn rate might be one of the most important metrics for investors since it shows a company’s sustainability and shows a company’s spending habits. This is important since investors will use the burn rate to determine how much funding will be required to either keep the company alive or implement new strategies for growth.

How to Calculate Cash Burn Rate

Gross Cash Burn Rate

Formula: Gross Cash Burn Rate = Salaries + Rent + COGS + Any Other Expenses

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Net Cash Burn Rate

Formula: Net Cash Burn Rate = Cash Balance Beginning of Period – Gross Cash Burn Rate

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Tip: Once you know your net cash burn rate, you can also figure out your cash inflows for that period. Taking the end of period cash balance and subtracting the net cash burn rate you get: $89,500 - $29,500 = $60,000. Here, the company had $60,000 inflow of cash during this period.

Monthly Cash Burn Rate

Formula: Monthly Cash Burn Rate = (Cash Balance Beginning of Period –Gross Cash Burn Rate) / (# of months within the period)

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*Remember! Burn rate does not include any one-time or unusual non-recurring revenue/expenses - don’t include them in your calculations!

Cash Burn Rate Benchmarks

If your net or monthly cash burn rate is negative, this means that your company’s expenses are exceeding your revenue. On the other hand, if this metric is positive, that means revenue is exceeding expenses.

Aiming for a positive net or monthly burn rate is always the goal, but not always possible. Having a negative burn rate is not necessarily a bad thing, especially when a company is trying to scale and grow. Growth strategies and initiatives need cash to be implemented so during these times of high growth or early-stage startups, burn rate may be negative. Burn rates can be negative since there is a trade off between growth and profitability which can be gauged by the rule of 40. Keeping track of burn rate from period to period is important and knowing how much cash runway you have will be crucial during these times.

Gross burn rate is just a summation of your expenses, so it will always be positive. Here, you should aim to keep expenses as low as possible. Keep in mind that if your company is trying to scale, gross burn rate will always be slightly higher than usual. Again, tracking the burn rate and your cash flow will be key for survivability.

How to Improve Cash Burn Rate

As we’ve established, burn rates are inevitable—expenses will always be present. Having a burn rate is perfectly normal, but trying to keep the burn rate as low as possible is key. Since burn rate is made up of revenue and costs, you should target increasing revenue and decreasing costs to improve your burn rate.

Increasing Revenue

  • Increase prices when possible—evaluate your product and service offerings and make sure your prices reflect your value to customers
  • Increase sales and marketing efficiency and optimize spend to improve the rate at which you can close new deals
  • Retain customers and avoid churn. The more customers you have, the more recurring revenue they bring

Decreasing Costs

  • Have a leaner team—that extra hire might not always increase productivity
  • Reduce nice-to-have employee benefits like catered daily lunches, gym memberships, etc.
  • Cut down on unnecessary equipment, tools, software, office space, etc.

Creating a budget and sticking to it will help you maintain your cash reserve and avoid unnecessary spending.

How to Calculate Cash Runway Using Cash Burn Rate

Cash runway is the amount of money a company has before running out completely. If you know your monthly burn rate, you’ll be able to calculate the cash runway from it. Here’s how:

Formula: Cash runway = Cash Reserves / Monthly Cash Burn Rate

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Knowing your burn rate will show you how many months are left until your cash reserves are depleted, when to start raising money, and how much money will be needed. Cash burn rate and cash runway together are great indicators to help you make effective decisions for your company based on your spending habits, goals, and cash reserves.

TLDR

Cash is king and it’s definitely something you want to keep track of. The cash burn rate metric helps you see how much you are spending in a given period, how much the expenses impact your starting cash balance, and help you forecast how your spending habits will be in the future. To make sure your company doesn’t run of our cash, scroll back up and learn how to improve you cash burn rate.

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