Burn rate is one of those important metrics that shareholders, CEOs, investors, and others use to evaluate how well a company – particularly a start-up – is doing. Here is what you need to know about burn rate and some ideas on how you can use it in your business reporting.
What burn rate actually means
Investopedia describes burn rate as the rate at which a new company is spending its venture capital to finance its operations before actually generating cash flow from operations. So a company’s burn rate measures how quickly the company’s cash holdings are decreasing and is usually noted in terms of ‘cash spent per month.’
If a company has $300,000 in initial funds and its burn rate is $30,000 per month, it will be out of cash in 10 months. The company can reduce either its burn rate or raise money to avoid a “zero cash day.”
Terminology to know
To start, get yourself familiar with the terminology. Here is some vocabulary that may be useful as a starting point while reporting on start-ups.
Gross Burn Rate – the total amount of cash a company is spending in a given period, usually a single month or a fiscal quarter.
Net Burn Rate – the difference between cash out and cash in. While startups typically spend more cash than they generate early in life, the eventual goal is to generate positive cash flow from operations.
IPO – initial public offering or “going public.” It means to offer shares in a private company to the general public. While this dilutes the ownership stake of the founder(s), an IPO can raise a substantial amount of cash for growing the company.
Zero cash day – the day a company is expected to use up the last of its cash, based on its current burn rate.
Free cash flow – the cash left over after paying expenses, interest, and other costs of doing business. While not precisely equivalent, many investors equate free cash flow with earnings before interest, taxation, depreciation and amortization.
Run rate – refers to the financial performance of the company based on its current financial state.
Reporting on a company’s burn rate
A financial statement and/or 10-K/Q filings can be a good place to start to find information about the company’s sales, net income, and other indicators. Business journalists can find many companies’ 10-K filings using EDGAR on the U.S. Securities and Exchange Commission website.
Local business reporters should keep an eye on what others are reporting nationally because burn rate does not just relate to start-ups. Established companies branching into new product categories can have high burn rates showing that their new business ventures may not be initially going as well as they hope.
Experienced business analysts can provide insight into a company’s business model, whether it’s working or not, and what the company’s long-term trend looks like. They are often used as sources by trustworthy media organizations and you should be sure to add a few of them to your Rolodex for future stories.