What you don’t know about your financial burn rate can burn you.
One of the key financial indicators for a business is monthly financial burn rate. Failure to know and plan for this key indicator can cause a company to go up in smoke or, worse, burn. The FlowFirstTM business management model is built around maximizing cash flow. To achieve this, a company must first know how much cash they require to operate monthly. This monthly cash requirement, or financial burn rate, is the amount every company must have access to fulfill its fixed or recurring expenses and obligations.
- Why is Financial Burn Rate Important to Your Business?
Burn rate is vital for planning purposes, and successful business owners are very in tune with this monthly number. Most importantly, the burn rate tells business owners the minimum amount that they must either collect from customers or have in reserves every month, so that they can meet recurring expenses or obligations. Be informed when it comes to your monthly burn rate because what you don’t know can burn you.
- What Are Monthly Financial Burn Rate Reports?
For most companies, one of the key management reports generated each month is the monthly financial burn rate report. In larger businesses or companies, the burn rate can change every month. Examples of some changes include new debt, payroll changes, retiring of old debt, new vendor expenses and new operating leases. Knowledge of the monthly burn rate will help companies make important decisions such as whether to take on new work or projects, or if the company can afford to hire new full-time employees. Many times, additional staffing is required to tackle a new or larger project, and this results in a commensurate increase in payroll.
- How Is the Financial Burn Rate Report Used?
In most cases, there’s a lag between a payroll increase and the receipt of payment from the new project. If business owners are not aware of their current burn rate, they can’t plan to meet the necessary cash-flow requirements. The financial burn rate report supplies management with the information needed to avoid this type of problem when deciding to take on a new client. With this knowledge in hand, companies can plan for the cash lag involved in a new project by obtaining lines of credit, securing additional capital, or taking out a loan, to name but a few options.
- What’s the Difference Between a Burn Rate and a Budget?
It’s important to remember that the monthly burn rate schedule is different from a budget. A budget incorporates projected amounts that may or may not materialize, such as capital expenditures, future investments, and other revenue-based expenses. A burn rate schedule, on the other hand, would not include capital expenditures if they weren’t recurring expenses or if they were paid for all at once. In fact, one of the major differences between a burn rate report and a budget is that burn rate only incorporates monthly obligations that must be paid regardless of the sales activity for the month.
Additional employees hired for special projects, for example, would be included in a financial burn rate report because new employees would be added to the payroll, which must be factored into monthly expenses regardless of sales volume. Independent contractors that are hired to perform a specific job, however, may not be included in a burn rate report because the expense may not recur.
- What Is Financial Flow?
Financial flow is one of the key cornerstones of the FlowFirstTM management model. Financial flow is defined as a company’s ability to record and execute accounting and financial transactions, in order to report the results to management. Financial burn rate reports, along with other monthly closing reports, are vital to the running of the business and must be a part of the monthly closing process. Don’t get burned when it comes to keeping track of recurring monthly expenses. Knowing and updating your burn rate schedule is one of the keys to maximizing financial and, ultimately, cash flow.
This article was co-authored by Mark Kaufmann, consulting technical writer.