How Startups Should Implement "Burn Money"

It was less than news that the Lippo Group released some of its shares in the Ovo digital wallet platform. One of the reasons stated was the inability of Lippo Group to support activities cash burn rate or "burn money" carried out on a large scale.

Consideration

"Burn money" can be done but not necessarily done. This activity is generally carried out by startups that have just started a business and use the money obtained from investors for business purposes before the company makes a profit. From the funding obtained, most startups spend large amounts of money for these activities. The reasons of course vary, ranging from user acquisition, brand awareness to the need to add a team to moving a new office.

Nowadays, when there are many e-commerce services, digital wallet providers, to transportation services ride hailing do "burn money" activities, does it make these activities mandatory? The answer is of course no. If in the end this activity becomes your startup plan, it's a good idea to do careful considerations and calculations before launching this activity.

"Burn rate always have a budget and need to spend to accelerate growth. This could have been completely avoided but as a result growth would slow down but not stop. If growth stops without burn rate then there is something wrong with the product," said Dana's CEO Vincent Iswara.

Vincent continued, the right time to do this activity is when the product has experienced growth before the "burning money" activity begins. Then a good time to stop is when the cost of the acquisition starts to exceed the set budget.

"Of course, every industry has a different calculation, depending on the customer lifetime value. The point is burn rate must be lower than customer lifetime value, said Vincent.

According to the Director of GK Plug and Play Indonesia, Aaron Nio, this activity is legal, depending on the targeted industry. A good general rule of thumb is that this activity must at least last for about 6 months and the startup has the ability to survive. Thus, when there are drastic changes, everything can be anticipated from the start.

Another thing that startups should pay attention to when they want to do money-burning activities is that the economic unit of the business must be reasonable.

"It's a good time to start doing burn rate is when the startup has passed the Product Market Fit process, has raised funds to focus on growth, and has clear objectives and targets to be achieved from these activities."

How to calculate burn rate

Basically it's not difficult to do calculations burn rate company. What needs to be noticed, burn rate can be calculated with or without the income factor included in the equation. The "by income" calculation can help to better understand the long-term viability of a company's expenses. The "No earnings" scenario is a worst-case scenario that shows how long the company can survive if all earnings are suddenly cut off.

For count average burn rate month of the year, subtract the current cash from your start-up capital, then divide by 12. For example, if the company had $500.000 on January 1 and $200.000 on December 31:

($500.000 - $200.000) 12 months = burn rate $25.000

"I think the right way to do the calculations burn rate is it's anywhere you spend your money on, usually per month. What is the monthly expenditure, the same as us manage our own finances times yes. How much does a month spend for food, petrol/transport, entertainment, utilities. So a startup calculates their burn rate based on their monthly expense," said Red and White Inc Investment Manager Chrisvania Handita Nyssa.

Regardless of the situation when the company starts doing "money burning" activities, make sure these activities are carried out for at least six months. Anything less than that could mean that the company is not ready to accept unexpected changes in income or expenses.

In other words, the company's monthly expenses should not go into the minimum required capital, to keep the business running for the next six months.

Growth vs profit

Currently, there are many investors who choose to focus on profit rather than profit growth. If previously metric growth become king, now the trend has begun to shift to profit or margin and how companies can earn positive income without having to rely on "burning money" activities.

According to Managing Partners Jungle Ventures David Gowdey, this step should be taken to avoid potential problems in the future.

“Since the beginning, we always invite startup founders to think about margin or profit compared to GMV, so that long-term plans and targets can be determined, not just predictions or targets. We also take a unique approach when looking for startups that have potential, namely startups that are not currently raising funds. They are what we are looking for,” said David.

Companies that increase revenue quickly and with high gross margins often have to invest more of their capital into growth.

When the company has found a Product Market Fit, the company will grow rapidly and the opportunity to seize market share wide open before the competition with other players. Ideally a good investment from these funds is to strengthen the engineering team, new office (if really needed), and marketing activities.

"In the end indeed burn rate cannot be avoided, but if used properly and efficiently, in the future it can provide positive results for the company. The ones who understand best how to manage this activity are of course the startup founders and related teams, because they are the most familiar with the various obstacles and challenges encountered. For that, make sure to take the right decision, whether this 'burning money' activity needs to be carried out, for what purposes or not," said Chrisvania.

Founder's responsibilities

Menurut Paul Graham from Y Combinator, the cause of the fall of a startup is running out of money or the decision to resign from the founders. Often both occur simultaneously.

Another thing that new startups must pay attention to is to properly understand the company's expenses. Most founders do not know how much the company's expenses and operations are, because the founder's focus is on how the company can grow quickly. Startup founders are required to monitor and review expenses on a regular basis, so that they can formulate appropriate steps when "burning money" doesn't need to be done anymore.

Startup founders must ensure their company has a strong balance sheet and a well-growing business that allows them to raise continued capital to support “money-burning” activities.

The thing to remember is that the more massive the "money burning" activity is carried out, the higher the investor's influence on the company if in the end they start to run out of money and have no other options.