Startup Runway Basics
The enthusiasm for startups is still high, even after the pandemic, and startup ecosystems are becoming more widespread globally. However, it’s difficult to get a startup off the ground and 90% fail. Lack of product-market fit, marketing problems, operating problems, and difficulties hiring talent are just some of the problems entrepreneurs face. For most new ventures, finances remain the major issue: enough capital to start a business and enough capital to keep it going. This is where a startup runway comes in.
What is a startup runway?
A startup runway is analogous to an airport runway: the bigger and heavier the plane, the longer the runway that’s needed for it to take off. In terms of a startup, the runway refers to how long a venture can keep operating if its income and expenses remain unchanged.
Why is it important?
If a startup’s runway is too short, it risks not taking off at all. A workable runway is one that provides the right amount of funding at each stage of a startup’s development. Without a workable runway, a business won’t survive.
Having an appropriate runway—the right funding for the right period of time—is essential to a business’s survival. And while too little cash is one of the most pervasive challenges startups face, excess funding can lead to complacent goal setting, ineffectual management, and inefficient operations.
According to CBInsights, running out of cash, tied with the inability to secure financing/investor interest, was the top reason startups fail.
No matter what kind of venture you are trying to grow, accurately calculating runway factors is crucial. The principle is simple, but even the best plans can be upended by unexpected events.
Plotting your runway
Basically, what you need is a long enough runway to have enough time to build your business so it will be primed for take off. The runway should be long enough to give the business time to reach its next milestone, which should then help you to raise additional funds.
The right amount of runway will depend on a number of factors, including the development stage of your startup, current expenses, and funding expectations. The first step is to calculate your burn rate. Your burn rate will tell you how much you are spending each month to run your business.
Calculating your burn rate
If you want to calculate your burn rate over the last year you take your cash balance at the beginning of the 12-month period and your current cash balance. Subtract your current balance from your beginning cash balance and divide it by twelve.
- Cash balance 12 months ago: $2,000,000
- Current cash balance: $1,200,000
- Burn rate: 2,000,000 – 1,200,000 ÷ 12 = $66,666 pm
Calculating your startup runway
Now that you know what you spend every month, you can calculate how long you can keep your business going at the current rate, if your income and expenses stay the same. To do that, take your current cash balance and divide it by your burn rate.
In this scenario, it would be $1,200,000 ÷ $66,666 = 18 months
A startup runway of 18 months is a healthy situation to be in. A year and a half should be enough time to see the company through this development phase to the next funding round.
What is the ideal runway length?
According to CB Insights, the median time lapse between funding rounds for tech companies should be 12 months for Seed to Series A and 15 months for Series A to Series B. Some experts say the majority of seed-stage startups should aim for a 12-18-month runway to give them enough time to complete certain projects and also allow enough time to start the next funding round. This longer period also allows for disruption to operations due to unforeseen circumstances.
However, some say that these periods are not long enough, and some experts now say that founders should aim for a runway to 18-21 months, even going as high as 35 months in some cases.
Benefits of a Long Runway
Avoid the runway red zone
The runway red zone for startups is when they have only three months of runway left. This is a risky situation for startups as they are less likely to attract funding. During COVID, many founders reported that they had less than 3 months left to operate.
Enough time for development
A longer runway ensures that startups have enough time to reach the milestone set at the previous funding round and to be ready for the next funding round.
Enough time for fundraising
Running a new venture and raising funds are both time-consuming. Founders are often so emerged in the business that they don’t have time to devote to fundraising – a longer runway gives you more time to work on your business and start planning the next fundraiser. It always takes longer to raise funds than one anticipates.
Being in a stronger position to negotiate
If you are not pressed for time, you are in a more strategic position in funding discussions, because you won’t be so desperate for funds that you’ll settle for any investor deal.
Ways to Extend Your Startup Runway
It’s important to make the best of your runway and ensure that it doesn’t become a wasted opportunity. The way to do that is by running a tight ship. Here are eight tips that will help your runway last as long as possible.
- Keep a watchful eye on your cash flow
There are many instances of startups that folded because the founders didn’t track their cash flow. While it’s the stated aim of every new business to make a profit, that aim is not realized in the first few months.
Cash flow is simply the flow of money into and out of your company bank account. It reflects whether you are building up a reserve or whether most of the money is flowing out.
Simply put, cash flow equals income minus expenditure. Income is money from sales, investments, crowdfunding, bank loans, and grants. Expenditure is represented by the payments the business makes like salaries, rent, operational costs, loan repayments, etc. Always keep a watchful eye on your cash flow.
- Reduce your expenses
Also, keep a watchful eye on your expenses and save wherever you can. Adopt a frugal attitude from the outset, letting the team know that there is no money to throw around. Motivate everyone to do the most with what there is.
Practical steps to save money:
- Use co-working spaces and save on office rent and electricity.
- Be careful with hiring – hiring is a major expense. Make use of freelancers and only hire once a person has proven to be indispensable to the company. Consider hiring interns or independent contractors.
- Automate processes like invoicing, so you don’t need to spend time on these tasks or pay someone to do it for you.
- With all purchases, shop around and compare prices. Don’t be shy to quote a competitor’s low price – you may win an even lower price.
- Track your spending, including your petty cash – it tends to add up.
- Make a point of limiting non-essential expenses – look at all your expenses and decide if any is unnecessary or could be limited.
- Spend less on essential expenses. For instance, look at more affordable alternatives for collaboration tools your team needs to work together. Consider sharing expenses for certain services with another company.
- Don’t neglect your receivables
Unpaid invoices have been the downfall of many a business. Invoices that are not paid on time directly impact your cash flow and burn rate. To avoid overdue invoices, have your payment terms clearly stated and make sure you have a late payment policy right from the start and implement it without fail. Do this so you are prepared for the inevitable customer that takes his chances with your business. What you don’t want to have happen is getting into debt because customers aren’t paying on time for your services.
This is why many businesses offer a discount for upfront payments – the margins may be smaller, but the bank is showing a credit balance.
- Put money aside for a rainy day
Business and markets are notoriously unpredictable and anything can happen at any time. The pandemic is case in point. An emergency fund for your business can help your business to survive a couple of months when something unforeseen happens. Experts advise that entrepreneurs start putting money aside right from the start until there is enough to keep the business going for at least three months. Some extra cash in the bank can buy you some peace of mind during turbulent times.
- Use technology to track your finances
Consider using software to manage your finances and accounts. Investing in accounting software for small businesses can be an affordable way to keep track of all financial transactions during your runway. These solutions produce accurate results and prevent human errors. This investment also saves your business money in the long run because you won’t need to employ an accounting professional. Accounting software is fast, accurate, and easy to use.
- Leverage revenue-based financing
Startups usually raise money by offering equity in the business in exchange for capital received. This method dilutes the business ownership of the founders. With revenue-based financing, ownership is not diluted. The startup pays a percentage of future revenues to investors for the capital raised from them.
With this type of financing, companies part with a percentage of future revenue in exchange for funding. Parties usually agree that the amount paid back will be three to five times the amount that was received from the investors.
- Slow your burn rate with a corporate credit card
If your company has a high burn rate, you might run out of cash soon. On the other hand, if it has a slow burn rate, you are in a good cash position. You can extend your burn rate by not using cash to pay for everything. Instead, you can pay with a corporate credit card. You can take advantage of the period between when the transaction registers on the corporate credit card and when the due date for payment before interest will be charged.
A corporate credit card can provide a startup with additional capital, and so facilitate flexible spending ability.
Corporate credit cards also offer rewards programs to companies, which can quickly add up to substantial savings on travel and entertainment expenses, or they can be redeemed for statement credits. The money saved helps to slow the burn rate.
- Increase your prices
This is an obvious tactic to increase your runway. Raising your prices can extend your runway by putting more cash in your pockets to fight another day. However, it’s important that the price increase is not too high or too low – too high might lose your customers, and too low may have no effect. It’s advisable to model the price increase so you can gauge the effect it could have on your business and your customers.
When should you try to lengthen your startup runway?
It’s too late to start thinking about increasing your startup runway when there are only three months of runway left. To avoid having to implement steps to extend your runway, make sure to assess your burn rate, and income and expenses on a regular basis. Running a startup is very challenging. Don’t be reluctant to surround yourself with an experienced management team that includes a financial expert that can help you navigate the challenges of a startup runway.