What is a cash runway?
A cash runway is the number of months a company can operate using only the liquid cash it has in reserve.
In other words, it's an indication of how long your cash reserves will last, given your monthly burn rate.
A startup’s runway is calculated as the number of months your business can keep operating before it runs out of money. In some calculations, the cash runway considers additional cash flow into the business.
Why cash runway is important
Why calculate your cash runway? Depending on who you ask, most start-ups take an average of two to four years to achieve some financial success. This should be a sobering metric since 70% of startups fail—many within 25 months of launch, according to reporting by Wilbur Labs.
As many startups operate with a negative cash flow, they need to know how much cash they can realistically expect to spend—and how long that cash will last them with their typical expenses (like how to pay employees)—before they need it to raise additional capital.
In the time between launch and profitability, you need well-managed cash reserves to keep the lights on. Running out of cash was the most cited reason for startup failure, ahead of lack of investor funding and business plan.
The runway calculation gives founders important information for future spending decisions:
- Seeking investment or financing
- Investing in equipment and research
- Hiring additional personnel
- Spending on marketing or advertising
- Administrative fees and overhead costs
With detailed information on your cash runway, you can better understand the financial health of your start-up. It can help you determine how comfortable you can be investing in new technology and hires.
Your runway time can be adjusted by controlling expenditures and your burn rate. The cash runway calculation helps founders understand their spending efficiency and warns if changes are required.
How to calculate cash runway
The cash runway formula is super simple:
Cash Runway = current cash balance ÷ burn rate (either gross or net)
Cash balance is pretty self-explanatory...but what about the burn rate?
What is a burn rate?
To find your company’s cash runway, you first need to know your burn rate.
A company’s cash burn rate is the amount of cash it spends (or “burns through”) each month.
Depending on how conservative a number you want in your cash runway calculation, you’ll use either the net or gross version of your cash burn rate.
What is gross burn rate?
Gross burn rate is the amount of cash your company spends on expenses each month. This rate does not take into account any incoming flowing into the business.
To get the most conservative picture of your cash runway—how long your business can last without bringing in another penny—use the gross burn rate for your calculation.
The formula for gross burn is:
Burn Rate (Gross) = (Total variable expenses + Total fixed expenses per month)
What is net burn rate?
Net burn rate is the amount of money the company loses monthly, after income. It’s the difference between outgoing cash and incoming cash.
To calculate net burn, look at your cash flow statement for the start and ending balances over the time desired.
Burn Rate (Net) = (Starting Balance – Ending Balance) / # Months
Using these figures, you can accurately calculate how many months your business can continue to operate under current conditions.
Now that you have your cash burn rate, you can finish calculating your runway.
Just plug both numbers into the cash runway formula.
...but while monitoring cash runway is great, what's a healthy runway?
What is a healthy cash runway?
What’s considered a healthy amount of cash runway is subjective. It depends on your industry, length of time and business, current income sources, and other factors.
While every business is unique, as a general guideline, founders should plan for plenty of cushion between rounds.
Though most online sources point to a 12-18 month gap between rounds, studies of funding data collected on Crunchbase suggest longer periods are the norm—up to 22 months between some rounds.
Plan for economic uncertainty by planning enough cash runway to ride out economic flux, changing market conditions, and delays in possible funding sources.
Taking a conservative approach to your runway calculations will help ensure smooth operation through the rough patches.
There's also the question of a variable burn rate: if you're not offsetting the cost of new hires with extra cash coming in, you might not have enough money to support your runway. So you'll need additional funds sooner than you anticipated.
What to do if your cash runway is low
Monitoring cash flow is vital to avoiding cash underruns. The more closely you monitor your cash runway forecast, the earlier warning you’ll have of shortfalls.
This helps you make decisions and course corrections with enough time (and cushion) to avoid issues.
However, if your cash runway calculations are below the guidelines suggested above (or just too close for your finance team’s comfort), changes may be in order.
Fortunately, there are a few ways to extend your cash runway and ensure normal operations until your profitability increases:
1. Cut spending
Cutting costs is the first way to keep cash in the bank. But it pays to be smart when you streamline your expenditures.
Cut discretionary spending—the extras you can do without—first and foremost. But look for places to streamline non-discretionary expenses as well. Negotiate better contracts for software, services, and other recurring expenditures.
Find ways to reduce financial obligations without completely sacrificing the quality of life in the office.
2. Increase sales
The easiest way to extend the runway is to increase revenue coming in.
Find ways to increase your monthly recurring revenue (MRR) to give your finances some breathing room until profits increase or new funding comes into play.
Examine your current pricing structure to see if there is room for improvement. Challenge sales teams to extend their current performance with cross-selling and upgrades where possible.
With more money in the door, you’ll have more time and better options for encouraging growth.
3. Supplement with alternative funding
Financing and short-term loans help companies make the most of their capital.
Look for opportunities to extend your cash performance with loans, lines of credit, venture debt, or corporate credit card structures that allow you to improve operations immediately and pay down the loan as revenues increase.
4. Scenario plan
Scenario planning is a way of predicting future likely outcomes by changing the variables in your financial forecast.
When determining ways to extend the cash runway, running scenarios with multiple changes (reduced expenses, increased pricing, more conservative hiring, etc.) can help you pinpoint which actions most benefit your outcome.
Conclusion
And now you know what you need to know about the cash runway! Want to keep a close eye on your startup’s financial health without leaving the comfort of your spreadsheets? Cube can help with that. To learn more, schedule a demo of Cube.
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