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You’re burning too much money

I don’t know much about your business but I’d guess that you’re burning too much cash.

Ok – that’s an over generalization but it’s also probably true. Businesses – and particularly early stage businesses – have some kind of gravitational pull towards spending too much money. Some of this is just the nature of entrepreneurship – entrepreneurs tend to be optimistic people who believe strongly in their business idea and their ability to grow their company. Some of this is that spending less money by definition means making trade-offs and potentially slowing down. Some of it may be left over exuberance from the internet bubble when businesses were rewarded for spending cash faster and looser. I don’t know all the causes, but it’s almost universally true.

Unfortunately, unless you have unlimited funds, spending too much money early means that you may not be around if your market takes longer than expected to emerge (it will), your technology doesn’t work the way you thought it would (it won’t), your sales cycles turn out to be longer than planned (they will be) and your funding harder to come by than you anticipated (’nuff said).

While there have been plenty of times over the years when I’ve avoided this pitfall, there have also been plenty of times when I’ve completely ignored what I know to be true about early stage company spending habits and allowed things to get farther along than they should. I always look back on these situations with frustration because this is something that is completely preventable. It’s rare to be sitting around a board table saying “I wish we had ramped up the burn earlier –we’re really paying for that now”; it’s much much much more likely that you’ll be kicking yourself for spending too much too soon, before you really had a good handle on the most efficient way to use the money. That extra few months of cash burn could really come in handy right now…

Everything in the start-up world is relative and your spending will depend a lot on your funding situation, you industry and the stage of your business. That said, below is a quick rule of thumb for web/internet/software businesses at various stages. If your net burn exceeds this amount (where burn = actual change in cash month/month, not GAAP and not gross expenses) or if you have less than 6 months of cash in the bank at your current burn rate and don’t have a funding plan in place, take a look at what you’re spending:

  • seed stage: $40k/month
  • angel stage: $100k/month
  • early venture stage: $250k/month
  • venture stage: $500k/month

I’ve rarely had success in businesses that ramped their spending above $750k net a month – it’s just too much money to be spending for any extended period of time in the name of “market acceleration”. I’ve had lots of experiences where we’ve kept spending below $450k/month and had great success.

So please be careful with your cash. It’s not that it’s bad to spend money – it’s just that it’s bad to run out of it.

July 3rd, 2007     Categories: Venture Capital    
  • http://dawnkey.wordpress.com/ Dawn

    I’m looking for angel money and can’t even imagine spending $100k a month.
    I did some accounting for a startup software company in 1997 that got vc. They spent $125k on interior design for a building they abandoned six months later. That kind of waste just makes me angry.

  • gluphus

    seed stage $40k/mo?
    where, in the name of high school football, do you get $40k/mo to burn?
    perhaps you should make all your newly funded ventures spend sometime in Bentonville or perhaps assign a nice Italian man from Jersey to insure all monies are well spent…
    But your article is right: watch the pennies, start with discipline, it will serve you well. It might add a few minutes of frustration to the work day, but it will save bankers/spouces/VCs owning you down the road.
    Happy 4th everyone!!!

  • http://www.fashmatch.com Jon

    It make me wonder if I am not spending enough money : -S

  • fewquid

    Great piece. I’d say $40k for seed stage is bang on once you’re past the “founders taking no money” stage and factor in everything else (legal expenses etc). We’re at about $20k/mo now in real terms, but making it work by not actually paying ourselves… Hope to change that soon.
    I think almost all CEOs in tech (me included) like gadgets. When you combine optimism and a pile of cash, it’s all too easy to get carried away buying shiny new things you don’t need. Same goes for hiring people you don’t use effectively, renting too much space, buying aeron chairs etc etc etc.
    Optimism is a key trait for success, but caution is always a good ally. Build castles in the sky, but don’t try and move your furniture in until you’ve built something with a bit more substance…

  • http://www.ibakesale.com Jonathan Treiber

    This is a very enlightening post. I am personally surprised by the numbers you threw out there, especially for early-stage seed level and angel level start-ups. Much like the other readers, I can’t imagine spending even $40k/mo. There is no way, unless you have a staff of 5 full-time execs making over $100k/year and some serious office space, I could get to that number. Maybe I’m just frugal, and I’m happy it’s not the other way around. We’re angel-stage and burning about $15k/mo. No office space, no salaries, all sweat equity, outsourcing what we can. This will ideally change over time but not before we do our next raise. Running out of money would make me sad after all this hard work.

  • http://54321mobile.com Luke Groesbeck

    We’re almost ready to line up our first round of funding. I’m pretty aggressive about keeping costs low, and I plan on doing so with my own salary. One of our early hires, though, will be a VP of Sales with some reasonably high salary expectations. Does anyone have any experience with paying themselves less cash than people they hire? I’m young with no family or mortgage, would rather trade cash for equity anyway, and believe that controlling costs is a important part of making the equity actually worth something. Does it create strange personal or professional dynamics to pay hires more?

  • http://jasonlog.supersized.org/ Jason Vu

    It should be much lower in China, India and Vietnam :)

  • http://www.revupnet.com Azam Khan

    Yeh its definitely psychological. Entrepreneurs have an itch of going all in and spending more than needed may be a part of their fantasy of embracing the entrepreneurial path (which they feel is superior to most other paths) that should entail the prerequisite desires for the climb to power. I’m sure thats oversimplifying it but its obvious entrepreneurs are optimistic about their business (and they have to be). We talk about living on the fringe in an article http://www.revupnet.com/2007/09/05/the-fringe/ that kinda touches up on those drives. There is no excuse for overspending though. There have to be ways to visual or auditory or feeling to keep the spenders in check.

  • S Freeman

    The figures in the above article seem right on target for many small established businesses. We spend 100K per month just trying to pay off old debt that is due now as well as keep current with our monthly operating expenses and payables. Does anyone have advice for emerging from a larger company split trying to slow the burn rate?

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