With a startup, as well as in any other business, your money is your fuel. When you run out of it, you can find yourself stranded in the middle of nowhere, with no means of sustenance.
According to CBInsights, running out of cash is one of the most common reasons why startups fail: 58 out of over 200 post-mortems listed this as the main cause for their failure. While there are more hazards threatening the existence of your company, such as wrong market fit, pricing, competition, and poor product quality; you can surely avoid running out of funds if you have a proper cash management system in place.
Before we proceed with the tips and strategies for funds management, let’s talk about startup burn rate first.
Defining the Startup Burn Rate
The term “burn rate” typically denotes the “rate at which a new company is spending its venture capital to finance overhead before generating positive cash flow from operations.” In other words, it’s the negative cash flow: the amount of money a company consumes every month to keep its operations going.
Knowing your average burn rate can help you foresee how soon you will run out of money. This can aid you with the development of a contingency plan. Another reason to keep track of your burn rate is that it might have a major impact on your ability to attract any investments at all. If your burn rate grows faster than your anticipated revenue, most of the investors will find it risky to fund your startup.
Burn rate is quite easy to calculate, in theory. If you have $100,000 on your account at the beginning of the month and $20,000 at the end of it, your gross burn rate is $80,000.
Gross Burn Rate = Monthly Expenses
However, depending on your monthly revenue, your net burn might differ from gross rate.
Net Burn Rate = Gross Burn Rate – Monthly Revenue
While there have been many speculations about “the right” burn rate for a tech startup, there is no absolute way to calculate it. Every startup is unique: monetization models and revenue levels differ, they have different teams (both in terms of size and costs), and administrative expenses vary. As some startups have reported, their burn rates vary from $2,000 to over $240,000. In case you want to get into details, there is a very insightful article on the subject, posted by Mark Suster, serial entrepreneur and investor.
Regardless of your burn rate, finding ways to reduce it always pays off. Just in case you want to know how to cut your burn rate without putting your startup at risk, here are some useful tips.
Tips for Reducing Your Startup Burn Rate
Hiring a remote development team is a great way to cut unnecessary expenses when building a high quality product that requires a fast time to market. Outsourcing offers a number of benefits:
- lower cost – Eastern European developers have significantly lower rates, while maintaining the same level of quality, as compared with local US or European developers;
- reduced administrative burden – you won’t need to worry about an office or equipment as your remote team typically comes fully equipped by the provider;
- increased flexibility – you can grow your team if needed and add any skills you require.
A dedicated development team is the most beneficial cooperation model when working with an outsourcing company. It proves to be especially efficient for ongoing projects: It offers transparent and predictable budgeting, which allows you to keep track of your burn rate and adjust it if needed.
The ability to identify the concepts that won’t work and pivot quickly is crucial for any startup. It is even more so for a startup that wants to reduce its burn rate.
Building an MVP first and testing the waters before going “all in” is a great strategy for avoiding unnecessary expenses that might skyrocket your burn rate.
Moreover, the agile project management approach offers more flexibility in terms of resources management. It allows you to apply lean principles, cut waste in the development process, and thus reduce your burn rate.
Focus on ROI
As a startup you should only invest in those initiatives and tools that guarantee good ROI. Choose the products that will make your team and processes more efficient.
With all the SaaS tools available for startups, it is difficult to choose 2-3 offerings that will yield the most benefit. However, the truth is, the SaaS model does not always offer the best price for value. Sometimes you might be just fine with a freemium model, especially if you have a small team.
Lots of great startup tools are mostly free, for example Slack, Trello, Skype, Google suite, Gitlab, mobile analytics, (including Google Analytics and Flurry) as well as many marketing tools. In case your startup is already profitable, you should reinvest all your revenue to make your product even better.
Manage your expenses
To be able to reduce your burn rate, you first of all need to keep track of your cash flow, and analyze major expense sources. By knowing exactly where you money goes, you can eliminate those unnecessary expenses and put your funds to better use.
For example, one of the most common startup mistakes is to rent a huge office space next to Uber or Twitter, throw a party every time you ship a minor product release and visit all the events you can find, be it in your city or across the globe. The thing is, to build a successful startup, you don’t always need an office, and parties might only harm your image among the investors. The general rule for a startup is to spend no more that 5% of your budget on things outside of salaries.
Read also: 7 Ways to Reduce App Development Cost
Grow at a rate you can manage
Uncontrolled growth can do more harm to your startup than a lack of growth altogether. While your burn rate identifies your runway (the amount of time you have before you run out of money), any unplanned growth spurt will make your runway shorter. Unless you can get more funds fast, you should be able to control your startup growth rate.
As they say, if you want a faster car, you don’t always have to invest in your engine. Sometimes you just need better brakes. Similarly, the key to better burn rate management isn’t to raise more money, it’s to cut your expenses.
Launching a startup is hard. We hope these tips will help you manage your burn rate better and avoid running out of money. If you’re interested in outsourcing software development services, contact us and get a free consultation on your project.