Burn rate is the rate at which a company is spending or losing money. The three most common types of startup burn rate calculations are cash burn, gross burn, and net burn.
- Cash burn rate is the change in cash balance month over month.
- Gross burn rate is the total amount of cash you're spending per month.
- Net burn rate is the total amount of cash you're losing per month.
For startup founders, understanding burn rate is critical to building and growing a business; it's the foundation for understanding startup runway (more on this later) and helps determine the amount of money in VC funding you require.
Calculating Cash Burn Rate
Cash burn rate is the change in cash balance month over month.
Cash balance from prior month
Cash balance in current month
Cash burn rate
Cash burn rate takes total cash balance from the prior month minus the cash balance in the current month to determine your current cash burn rate. Beware that including VC-funding in your cash burn rate calculation does not always give you a realistic view of how much money is being spent/lost, and may lead to cash burn issues down the line.
For this reason, venture capital-backed startups may wish to exclude recent VC funding from this calculation. To do so, the calculation would be:
Cash balance from prior month – Venture capital funding
Cash balance in current month – Venture capital funding
Cash burn rate, excluding Venture capital funding
To find your average cash burn rate, add up the results of your monthly calculations, and divide by the number of months included. For example:
January Cash Burn: $124,000
February Cash Burn: $126,000
March Cash Burn: $127,000
Sum of Three Months: $377,000
Number of Months: 3
Average Monthly Cash Burn Rate: $125,667
This calculation can be used to determine your average burn rate across cash burn, gross burn or net burn; just swap out the figures accordingly.
Pros: How the cash burn rate calculation helps
- The cash burn rate calculation is very straight-forward can be done using your company's bank account statements vs monthly financial statements (income or profit & loss statement (P&L), balance sheet, and cash flow statement). This makes it easy for business leaders to calculate on their own.
- Cash burn is a literal calculation of change in cash over a period of time.
Cons: How the cash burn rate calculation may cause confusion
- The cash burn calculation uses the cash basis accounting method, while most startups use accrual basis accounting method (more on this here). When the rest of your finances are managed and reported using accrual accounting, having one report using cash basis leads to misunderstandings for why things 'don't add up'.
- Because you are using cash basis to determine cash burn rate, your burn rate is more likely to experience notable fluctuations from one month to the next. For instance, if a credit card payment is made in February for expenses generated in January, your cash burn for January will be significantly lower and cash burn for February significantly higher.
- Using bank statements alone to calculate cash burn will not provide rich enough insights to take action on managing burn as need be.
- Fluctuations in monthly burn rate lead to fluctuations in runway, which results in a lot of unnecessary time, energy, and stress from founders trying to figure out what impacted this change.
Zeni's Take on Cash Burn Rate
While the concept of change in cash balance from one month to the next is a straightforward take on measuring burn rate, it does not take into account more 'common sense' elements of bookkeeping and the accrual accounting method most startups use. The cash burn rate method often leads to more questions and confusion about the company's burn rate as it relates to the P&L.
With the Zeni Dashboard, customers can easily view change in cash position month over month (or by weeks, quarters, or years) within the Cash Position report, keeping an eye on the actual rate of change in this category regularly.
See also: Startup Bookkeeping: Common Mistakes VC-Backed Startups Make and How We're Solving Them
Calculating Gross Burn Rate
Gross burn rate is the total amount of cash you're spending per month.
Total Monthly Operating Expenses
Gross Burn Rate
Gross burn is a more literal calculation of outgoing cash, combining all of your monthly expenses as found on your income statement (P&L) to determine your burn rate. To find your average gross burn rate, add up the results of your monthly calculations, and divide by the number of months included.
Prominent tech venture capitalist Fred Wilson breaks it down saying, "You look at your monthly expenses on your income statement. Add all of them up. And then look at any outlays of cash for capital expenditures or other regular uses of cash on the balance sheet and cash flow statement. Add all of these monthly cash outlays together. This is 'gross burn rate'."
Pros: How the gross burn rate calculation helps
- Gross burn rate gives founders a clear picture of how much cash is being spent each month. It's also a financial metric all venture capitalists, investors and board members will want to know at a high-level, review at a more detailed level and keep tabs on over time.
- This calculation leverages your monthly financial reports (P&L, balance sheet and cash flow statement) which provide a more complete view of the company's overall financial position and, in turn, a more realistic calculation of your company's burn.
Cons: How the gross burn rate calculation may cause confusion
- To accurately calculate your startup's runway using the gross burn rate would require an extra step of adding any revenues or income.
- Gross burn does not directly address change in cash, rather tracks outgoing cash. Using this approach would require a company to track its cash balances separately.
Zeni's Take on Gross Burn Rate
Staying on top of your operating expenses is crucial. For Zeni customers, the Zeni Dashboard shows your company's gross burn rate via the Operating Expenses report, which organizes various groups of expenses, from Salaries and Benefits to Sales and Marketing, including Cost of Goods Sold (COGS).
But basing your company's burn rate on spend alone does not result in the most powerful figure to determine burn rate.
See also: Hit the Books: When To Hire a Bookkeeper For Your Startup
Calculating Net Burn Rate
Net burn rate is the total amount of cash you're losing per month.
Total Monthly Revenues
Total Monthly COGS
Total Monthly Operational Expenses
Net Burn Rate
The net burn rate factors your total expenses and total income in a given month, including proceeds from revenue and cost of sales, to determine burn rate. This is the same figure as Net Income on your monthly P&L statement.
To find your average net burn rate, add up the results of your monthly calculations, or monthly Net Income figures from your P&Ls, and divide by the number of months included.
Pros: How net burn rate calculation helps
- Derived from your P&L statement (Net Income) which includes COGS, net burn provides the most comprehensive view of burn by weighing revenue and income against expenses.
- Net burn uses accrual accounting, which makes for a more consistent calculation and contextual alignment with the rest of your financial records which use accrual accounting method.
Mark Suster of Upfront Ventures explains, "The reason that most investors quickly zero in on net burn is that if you have $3 million in your bank account and have a net burn of $150,000 per month you have more than 18 months of cash left provided your net burn stays constant. Conversely if you’re burning $600,000 per month (yes, some companies do) then you only have 5 months of cash left. It’s what signals to existing investors how quickly their teams need to be fund raising and the level of risk the company is facing and also it signals to potentially new investors both how quickly you need to raise (ie you have less leverage if you’re in a rush) as well as how much cash you’ll need if they fund you."
Cons: How the net burn calculation may cause confusion
- An accurate net burn calculation requires a more organized bookkeeping and accounting structure to accurately track/account for COGS alongside operating expenses and revenues.
Zeni's Take on Net Burn Rate
When comparing the three aforementioned methods of calculating burn rate, we determined the net burn rate calculation provided the most realistic and simplified interpretation of startup burn rate for our customers.
The Zeni Dashboard makes our customers' operating Net Burn, Runway and Cash Zero date available in real-time, and accessible 24/7:
Within the Net Burn Insights Report, view burn rate by week, month, quarter or year, and a detailed breakdown of the revenues, COS and OPEX that make up these calculations. Click through any figure to view transaction-level data in Compare Mode.
See also: 8 Best Accounting Tools for Startups
Relationship Between Burn Rate and Startup Runway
Burn rate and startup runway go hand in hand. Your burn rate calculation can be used to quickly determine your company's cash runway, or how long your company can operate at its current rate before running out of cash.
How to calculate startup runway using net burn rate
Use your average net burn rate and current cash balance to determine how many months your company can continue operating before it tunes out of cash.
Cash balance in current month
Average Net Burn Rate
Startup Runway, or Number of Months Until You Are Out of Cash
At Zeni, we use the average net burn rate of at least the past three months in this calculation to take into account the increase or decrease in the burn rate month over month.
You now know everything there is to know about understanding and calculating startup burn rate and runway, and can determine the best type of burn rate calculation for your startup or small business.
Looking for someone to calculate your burn rate and manage your startup's finances with attention to detail, speed, and ease? Give Zeni a try.
At Zeni, we offer a team of finance experts working seamlessly with powerful artificial intelligence — both dedicated to managing every financial function for your business with speed and accuracy. We offer best-in-class service and pricing for monthly accounting and bookkeeping services, plus a flat fee of $2,000 to complete our customers' year end taxes.