Burn Rate

How burn rate works

Burn rate measures cash leaving the business, expressed as a monthly figure. It has two standard forms, and confusing them is the most common error in the whole subject.

Gross burn = total cash operating outflows in the month

Net burn = gross burn − cash collected from customers in the month

Gross burn answers what the business costs to run. Net burn answers how fast the bank balance is falling. A company spending 600,000 dollars a month and collecting 350,000 has a gross burn of 600,000 and a net burn of 250,000, and only the second number sets the date the cash runs out.

Both are cash measures, which is what separates them from a net loss on the income statement. The two diverge for ordinary reasons:

• Deferred revenue. An annual contract collected upfront is cash today and revenue recognized over twelve months. It reduces net burn immediately and the income statement much later.
• Accounts receivable. Revenue recognized on a net-60 invoice does nothing for this month's net burn.
• Non-cash expense. Depreciation, amortization, and stock-based compensation hit the income statement without moving cash.
• Capital expenditure and capitalized software. Cash out that does not appear as an expense in the period.
• Financing flows. Debt principal payments and interest are real cash outflows and belong in the operating view of burn even where accounting classifies them elsewhere.

Because the monthly figure is noisy, the measure is normally taken as a trailing three-month average. Payroll timing, annual insurance and software renewals, tax payments, and lumpy enterprise collections can swing any single month by a large fraction.

The efficiency question, which is what investors actually ask, is not how much a company burns but how much growth it buys. David Sacks of Craft Ventures introduced the burn multiple in 2020 for this:

Burn multiple = net burn ÷ net new ARR

Net new ARR is new ARR plus expansion ARR minus churned ARR over the same period. Sacks published interpretive bands for the ratio, describing below 1x as exceptional, 1x to 1.5x as great, 1.5x to 2x as good, 2x to 3x as suspect, and above 3x as bad, while noting the ratio improves with scale. The bands are one investor's heuristic rather than a standard, and they are quoted here as his framework, not as a benchmark.

The useful discipline is to report burn as a breakdown rather than a single number: people cost, hosting and infrastructure, sales and marketing, contractors and professional services, facilities, and other. A single figure hides whether burn rose because the team grew or because one vendor invoice landed twice in the same month.

Worked example

Suppose a company is reporting a quarter to its board. These numbers are hypothetical.

Monthly cash outflows: salaries and payroll taxes 420,000 dollars, contractors 45,000, cloud infrastructure 80,000, sales and marketing programs 95,000, software and tools 25,000, facilities 20,000, professional services 15,000. Gross burn is 700,000 dollars.

Cash collected from customers in the month is 310,000 dollars.

Step one, net burn. 700,000 minus 310,000 equals 390,000 dollars.

Step two, runway. With 6,300,000 dollars of cash, 6,300,000 divided by 390,000 equals 16.2 months.

Step three, the efficiency view. Over the quarter the company added 1,100,000 dollars of new ARR and 240,000 dollars of expansion ARR, and lost 190,000 dollars to churn. Net new ARR is 1,100,000 plus 240,000 minus 190,000, or 1,150,000 dollars. Quarterly net burn is 390,000 times three, or 1,170,000 dollars.

Step four, burn multiple. 1,170,000 divided by 1,150,000 equals 1.02x. The company spends roughly 1.02 dollars of net cash for each incremental dollar of annual recurring revenue.

Step five, the decision this informs. Suppose the team proposes eight sales hires costing 110,000 dollars a month fully loaded. Gross burn goes to 810,000, net burn to 500,000, and runway falls from 16.2 to 12.6 months. The question is not whether 12.6 months is acceptable in the abstract; it is whether those eight hires will add enough net new ARR to hold the burn multiple near 1x. If they take six months to reach quota, the multiple degrades before it improves, and the runway has to absorb the gap.

Where it shows up

The monthly investor update is where the number is reported most often: closing cash, gross burn, net burn, months of runway, and the change from last month. Investors watch the sequence, because a burn figure that rises for three consecutive months without a matching revenue trend is the signal, not the level.

The board deck carries the same numbers with the breakdown by category and a comparison against the budget approved at the start of the year. Variance by category is the actual content; the headline is a summary of it.

The statement of cash flows is the audited version. Cash used in operating activities, adjusted for the non-cash items reconciled at the top of the statement, is the closest formal analogue to gross burn, with cash used in investing activities capturing capital expenditure and capitalized development.

The thirteen-week cash flow forecast is the operating instrument. It is built from expected receipts and disbursements by week and is what a finance team actually uses to decide whether a payment can be made.

Venture debt and credit agreements convert burn into a constraint. Minimum liquidity covenants, and in some facilities a covenant expressed as a minimum number of months of cash at the tested burn rate, determine whether further draws are available.

Diligence requests in a financing ask for a monthly cash detail, typically twelve to twenty-four months of gross burn, collections, and closing cash, plus the forward model. A company that reports burn consistently all year has this ready; one that does not spends the first two weeks of a process rebuilding it.

Common mistakes

• Reporting gross burn in one document and net burn in another without labelling either. Name the basis every time it appears.
• Treating net loss as burn. Deferred revenue, receivables, stock-based compensation, and capitalized spend all drive a wedge between the two.
• Quoting a single month. Use a trailing three-month average and disclose anything one-off inside it.
• Excluding debt service. Principal and interest leave the bank account.
• Counting bookings as collections. Only cash received offsets gross burn.
• Cutting burn without regard to which line the cuts come from. Reducing sales and marketing lowers burn and lowers net new ARR, which can leave the burn multiple unchanged or worse.
• Reporting a burn multiple against gross new ARR. Sacks defines it against net new ARR, which nets out churn and includes expansion; using gross new ARR flatters a company with a retention problem.

Related terms

Burn rate is the denominator of runway, and the two are always quoted together. Net new ARR, the input to the burn multiple, is shaped by net dollar retention, and the growth-versus-profitability trade-off it describes is the same one measured by the Rule of 40. Companies facing rising burn and a shortening runway turn to debt financing or to a new round, and a company whose burn outran its growth is the archetypal candidate for a down round.

Frequently asked questions

What is the difference between gross burn and net burn?

Gross burn is total cash going out in a month. Net burn subtracts cash collected from customers in the same month. Net burn is the figure that determines how fast the bank balance falls and therefore how much runway remains; gross burn is the figure that tells you what the business costs to operate with no revenue at all.

How do you calculate burn rate?

Take total cash outflows for the month for gross burn, then subtract cash collections for net burn. Use a trailing three-month average rather than one month, and use bank-account cash movement rather than the income statement, because deferred revenue, receivables, and non-cash expense all make net loss a poor proxy.

Is burn rate the same as net loss?

No. Net loss is an accrual figure that includes non-cash items such as depreciation and stock-based compensation and excludes cash movements such as capital expenditure, debt principal, and the collection of prepaid annual contracts. Two companies with identical net losses can have very different burn.

What is a burn multiple?

Net burn divided by net new ARR over the same period, introduced by David Sacks of Craft Ventures in 2020. It expresses how many dollars of cash the business consumes to add one dollar of annual recurring revenue, which is a measure of the quality of growth rather than its speed.

What is a good burn rate for a startup?

There is no absolute answer, because the same burn is reasonable at one revenue level and reckless at another. The productive version of the question is efficiency: how much net new ARR the burn produced, and how many months of cash remain at the current rate. Any single dollar figure quoted as a benchmark is context-free.

How can a company reduce its burn rate?

The largest line is almost always people, followed by sales and marketing programs and cloud infrastructure. Reductions on the revenue-producing lines lower burn and lower net new ARR at the same time, so the test is the effect on the burn multiple and on the runway together rather than on the burn figure alone.

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