What is a Burn Rate?

Welcome to the Venture Capital Podcast. I'm here with Peter. I'm John Bradshaw. He's with the University Growth Fund. I'm here with Codebase. He covers the VC side, I cover the founder side. And we're going through terms that if you are trying to get into vc, you should understand, or if you're a founder, you should understand. So this one should be pretty simple. It's called burn rate. So the definition of burn rate is the total amount you're spending every month minus your income. So if you are generating 10,000 in income per month and your burn rate and you're spending. You're spending 100. Sorry, $100,000, then your burn rate per month is 90,000. Correct?

Yeah. And when you say income, what you mean is cash income.

Revenue, sales.

Well, but so revenue on an accrual basis might not be cash based.

Are you talking about earned or under revenue?

Well, it could be earned revenue, but you haven't been paid on.

Okay.

The important thing here is it's how much cash you are burning every month. And so it really almost doesn't have that much to do with revenue or expenses. It really is just like, how much cash is coming in, how much cash is going out. And then. But you look at your bank account.

You don't count it as the negative.

How much cash is leaving your bank account every month?

Right. So that's the net negative. I've got 10 grand that came in, 100,000 went out. So my burn rate's 90,000. Yep.

So that. That's burn rate.

And unfortunately, a lot of CEOs, I feel like right now, with the. With the recent layoffs. Yeah, these are. This is a simple concept that CEOs didn't understand or ignored or hoped that their investors would support them. And I feel like A lot of CEOs lately have been acting as the CEO and making the decisions the CEO. CEO should have been making.

Yeah, well, I mean, when money is free, right, you can just raise more money when you need more money. And so you can burn a lot of money because you can just go back out and raise more higher valuations. The problem is that money is no longer free as interest rates have gone up. And all of a sudden, like, well, now it's really hard to go out and raise money capital. And so companies are doing everything they can to make the capital that they have last longer. And the way to do that is you reduce your burn rate. And you basically have two main levers. You either increase revenues or you decrease expenses. Right. And for the most part, it's easier to decrease expenses than it is to increase revenue. So that's where a lot of companies are making some of those hard choices. You know, we're an investor in a company that was burning like a tremendous amount every month, like 17 million a month, something crazy. And the they brought in a new CEO, he came through, looked through everything, made a ton of cuts, flipped the company from burning $17 million a month to generating a few million dollars a month in profit. And by doing that, now has unlimited Runway. Right. Which is kind of the other aspect of burn rate is your burn rate. Or your Runway is basically you take your cash in the bank account and you divide it by your burn rate. So if you're burning $100,000 a month and you've got a million dollars in the bank, then you have a 10, 10 month Runway. And I think understanding that Runway is super important. The other thing that's a little bit tricky with burn rate is that it seems like it sounds like it's one of those things that's like steady month to month, but in reality probably fluctuates quite a bit. And so you want to understand where it is, where it's going to be to get a good understanding of where your Runway is and not fall under the trap of like, well, we're burning $100,000 right now, therefore, you know, when we have $1 million in the bank, therefore we have a 10 month burn or Runway, when in reality like next month, you know, you, you know, you're going to go hire a bunch of people, your burn rate's going to increase and may not be offset with incoming revenue for another several months until those new people have fully spun up and are and are hitting sales targets. So yeah, that's burn rate. It's something that VCs pay a lot of attention to. Founders should pay probably even more attention to. And I, and I think, like for founders out there, my advice would be with your burn rate, you probably need to be back in market fundraising with six months of Runway left. And you, when you raise, you probably want to be raising 24 months of Runway, given your burn rate. And you want that based on what your forecasted burn rate is with good assumptions, knowing that if you raise 24 months of capital, given your burn rate, your forecasted burn rate, that you're going to be fundraising every 12 months, you're going to start fundraising every 12 months so that you have, you know, one and a half to 2x the capital you need. If you do that you'll be in a very strong position to raise more capital and negotiate. If you don't and you're, you know, coming to the very end of your cash, you will be in a bad position. So. And in a very bad negotiating position. And in fact, a lot of VCs, you know, we talked about this on another podcast. Like Jason Calacanis, he's like, I don't do bridge rounds. Because, like, that's indicative of the founder not knowing how to manage their resources and plan appropriately. It's the same thing, right? It's a red flag to VCs that you don't really know what you're doing as a founder and that you haven't managed or planned appropriately. And so that's hair on a deal. And less likely that they'll be excited about investing.

It's a rule from vcp. Hair on a deal means no deal.

It just means it's a lot harder to get done. So. So, yeah, punchline is burn rate. That's how much cash you are spending. You know, net of any incoming cash. That's cash leaving your bank account. Runway is you just take your burn rate and. Or you take your. Your account balance in your bank account, divide it by your burn rate, and you should be fundraising with minimum six months of Runway in the bank.

Perfect. Well, thank you so much, Peter. Thanks, you guys, for watching. Go to www.venture capital.fm if you have more questions. Ping us on Instagram, TikTok, LinkedIn, wherever. Happy to answer your questions. YouTube.

Thanks, everyone.