By Omoruyi Edoigiawerie, Esq
Over 47 per cent of start-ups fail because they run out of money, this makes money very integral to the growth and sustainability of any start-up.
It is therefore very important for every start-up to manage its overhead costs (burn rate) diligently so as not to find itself among the statistics of startups that fail because they lose liquidity.
Managing its burn rate is a crucial aspect of start-up management as it directly impacts the financial health and sustainability of the business.
The burn rate refers to the rate at which a start-up is spending its available capital to cover expenses before generating positive cash flow. A start-up’s burn rate is the rate at which it is spending its cash.
From professional and advisory experience, I have learnt that a high burn rate can be a sign of trouble, as it means that the start-up is not generating enough revenue to cover its expenses.
As a general rule, start-ups should keep expenses as low as possible. Strategic burn to gain market share and win customers is different from everyday spending on operational expenses.
Founders will need to develop a culture of appropriate spending, one that is bespoke to their business, in essence, they should keep the burn rate low. A low burn rate is a sign of a healthy company that is on track to profitability.
*Common mistakes that fuel the burn rate
1. Spending too much on marketing and branding- It’s important to market and sell your product or service, but don’t spend too much money on it. I always advise start-up founder to make sure they are getting a good return on the investments they make in marketing
2. A large workforce- Oftentimes start-ups are pressured to hire more people than they need in their quest to justify the investments they seek. This is one pit they must do all they can to avoid. In simple terms, “don’t do it”. I know from experience that you don’t need a big team to get your business off the ground and structure sustainably. The advice is to start small and grow your team as you need to.
3. Unnecessary expenses- In our Nigerian parlance, start-ups must resist the urge to “jaiye jaiye”. It’s easy to get caught up in spending money on things you don’t need. Make sure you’re only spending money on things that are essential to the growth and profitability of the business.
4. Not having a clear plan- It’s important to have a clear plan for your business. This will help you stay on track and avoid spending money on things that aren’t important
5. Impatience- It takes time to build a successful business. You must crawl before you walk and walk before you run. Being profitable is not an overnight venture. Be patient and focus on building a great product or service that people love.
*Tips on managing burn rate
There are a few things that start-ups can do to reduce their burn rate. They include:
A. Focus on revenue generation. The best way to reduce the burn rate is to focus aggressively on revenue generation. This means focusing on sales and marketing and finding ways to increase your customer base.
B. Slash your overheads. There are several ways to slash overheads without sacrificing the quality of your product or service. For example, you can deploy the lean methodology, resist the urge to rent or utilise a business space that is not immediately useful to the company, but only the work tools you need and hire only the staff that you need rather than find ways to automate tasks, mitigate your appetite for sponsorship of events and branding and cultivate the ability to negotiate better deals with vendors.
C. Get creative with funding. There are a couple of ways to raise money for your start-up, beyond traditional venture capital. For example, you could try crowdfunding, angel investing, or government grants.
D. Be patient. It takes time to build a successful start-up. Don’t expect to be profitable overnight. Be patient and focus on building a great product or service that people love, will get hooked and loyal to you.
Effective tips on managing burn rate
1. Budgeting and forecasting: Develop a comprehensive budget that outlines your projected expenses and revenues. Make sure to include all costs such as salaries, marketing, rent, utilities, and any other operational expenses. Regularly review and update your budget based on actual performance to ensure accuracy in your financial planning.
2. Prioritise essential expenses: Identify the critical areas of your business that require immediate investment and focus your resources on them. While it’s important to invest in growth and development, be mindful of unnecessary expenditures that don’t align with your current stage or business goals.
3. Efficient resource allocation: Optimise the utilisation of your resources to maximise output while minimising costs. Look for areas where you can streamline processes, reduce waste, or negotiate better deals with suppliers. Consider outsourcing non-core functions or leveraging technology to automate tasks and improve efficiency.
4. Monitor and control spending: Regularly track your expenses to stay aware of your burn rate and identify areas where you can cut costs. Implement financial controls and approval processes to ensure that expenditures align with your budget and strategic priorities. Encourage a culture of cost consciousness among employees.
5. Cash flow management: Keep a close eye on your cash flow and work to improve it. Speed up accounts receivable collections by offering incentives or implementing stricter payment terms. Negotiate favourable payment terms with suppliers to optimize your working capital. Consider implementing cash flow forecasting to anticipate potential shortfalls and plan accordingly.
6. Flexible workforce: Consider flexible staffing options such as contractors, freelancers, or part-time employees. This approach allows you to scale your workforce as needed without incurring the fixed costs of full-time employees. It also provides more agility during uncertain times or periods of rapid growth.
7. Regular financial analysis: Conduct regular financial analysis to evaluate your burn rate, profitability, and overall financial performance. Assess your key metrics, such as customer acquisition cost (CAC), lifetime value (LTV), and gross margin, to gain insights into your business’s financial health. This analysis will help make informed decisions about resource allocation and potential adjustments to its business model.
*Conclusion
Managing the burn rate is an ongoing process. For a start-up, it is essential to regularly review its financials, adapt its strategies in line with market expectations, and be prepared to make necessary adjustments to ensure the long-term sustainability and success of your start-up.
Ultimately, maintaining a clear focus on achieving profitability and seeking appropriate funding opportunities can help sustain the start-up’s growth without compromising its long-term viability.
Omoruyi Edoigiawerie is the Founder and Lead Partner at Edoigiawerie & Company LP, a full-service law firm offering bespoke legal services with a focus on startups, established businesses, and upscale private clients in Nigeria. The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances. His firm can be reached by email at hello@uyilaw.com.
