The most challenging obstacle every new company must face in its life cycle: managing its spending to create a consistent, growing generation of revenue. At each level of a start-up’s life, from growth and development to each Series of VC funding and final maturity, new companies face a unique set of financial and personnel challenges. This balancing act of managing funds, growth, sales and expansion refers to what is called “managing your burn rate”.
What’s a Burn Rate?
A quick Google search says: “Burn Rate is the rate at which an enterprise spends money in excess of its income.” Thanks, Google -- that’s a quick and concise definition but hardly captures the scope of responsibility and adaptability it takes to manage a growing company’s financial state. Most organizations burn money, or spend more than they make, anywhere up to four years after their inception. Obviously, if you don’t manage your burn rate well, you’ll run out of cash. This article will provide you a step-by-step understanding of what to expect financially at each step of your start-up’s journey and a starting point with which to successfully lead your team to profitable success.
Seed Funding/Series A
Congratulations! You’ve had a great idea for a new product or software, and your friends and family believe in you so much they gave you a few thousand dollars to bring your idea to life. Some people may even join you on your team, quitting their jobs to buy into your purple squirrel’s easy equity. You’ve just completed your first round of seed funding. Seed funding may be a nice little bump on your road to entrepreneurialism, but more often than not if you’re serious about hiring a team, developing your product and selling it to others, you’re gonna need to hire people. And even if you have the most radical, world-changing idea that attracts top performers, these people can’t realistically work for free. You’re gonna need a bit bigger of an investment.
This leads us to Series A funding: the first institutional capital raised outside of getting money from family, friends or angel investors. It’s an obvious truth that if you want to buy office equipment, pay for software licenses, rent a workspace and pay your budding team (even reduced wages), you’ll need capital. This kind of funding is what Series A is all about. VC firms who specialize in Series A funding take risks on younger companies and help them prove themselves for a predetermined piece of your equity pie. Ideally, with Series A funding in your pocket, your budding company will be able to come up with beta software or a product prototype that allows you to show people its obvious value.
With Series A, there is key personnel you’ll need to bring on board that’ll help optimize your chance at hitting all benchmarks. According to Karl Hardesty, “First, get an executive assistant. There’s a popular program available out there called Professional Employer Organizations, where young companies can “hire” professionals for a set rate and the host company pays that worker’s wages and covers all benefits and compliance costs. PEOs also offer trained HR serves, manage your payroll, you name it. This outsourcing is incredibly valuable to young companies, allowing them to focus entirely on developing their product.“
When you bring people onto your team as a Series A-funded start-up, you still have hardly any money with which to pay them. You better get ready to turn on the charm, because the most charismatic entrepreneurs are the ones will get passionate people to buy into their vision. Go out and meet people, expand your network and you’ll find people who will soon share your dreams.
In Series A, your burn rate is staggeringly apparent -- you’re not selling anything yet. You’ll need to hire engineers and developers to create and launch the product.The way to come out on top is to create your valuable product before you run out of capital and to land squarely in the arms of interested Series B investors.
If you hit your benchmarks, you’ll make it to Series B funding. In Series B, the investors are slightly less risky and uninterested in you proving yourselves. You’ve already created the product and your willing to sell, and ideally, you already have a few interested customers in the books. This is the point at which you want to hire salespeople and begin the generation of capital. Before Series B investors send you their cash, however, you must agree to the similar negotiations of equity that you covered during Series A. Determine exactly what this cash is for: hiring salespeople, making sure you have the equipment and tools you need and kick off a marketing plan.
There is a small risk here, for some CEOs, to feel safe and lean towards extravagance. Karl Hardesty presses this warning to entrepreneurs, “This investment is not for you to buy yourself a new Audi and procure ping pong tables for your office. This is someone else’s money to grow your company - don’t spend it like it’s yours, especially if you can’t yet pay it back with interest.”
Another caveat to include here is the desire to provide a pleasant work environment for your new hires. Especially in a highly competitive work market like Orange County or Silicon Valley, how do you attract top performers to your business? Here’s the secret: these early-on employees are risk takers, willing to sacrifice lower wages and benefits because they believe in your idea. They’ll buy into your company on an emotional level, and those who don’t aren’t the people you want to attract to your organization anyway. Save the free lunches for when you can afford it.
Even in Series B, you’ll have to be careful with hiring people as you still can’t quite afford market value wages for every role. Emotional buy-in is as crucial here as it is in Series A funding. Sure, there will be some roles, perhaps a CFO, where you will need to spring for that person’s wages as they fill a crucial gap in your company. But for most cases, you still need to make due with your limited finances and try to cover as many bases as you can yourself.
Typically, if you’re company has been successful thus far in an attractive market, you’ll have zero trouble raising a third round of funding. The trick here is to decide for yourself how much equity you’re willing to give up for that C round. VCs and sellers will each evaluate the value of your company, and then you as the founder need to decide how much ownership you want to give up for how much external revenue. Series C is all about scaling up, refining your product and hiring a robust sales team. Maybe you’ll even start to offer benefits and pay market-value salaries. Sometimes Series C funding isn’t necessary for your company, especially if you’ve filled out your revenue generation. On the other hand, sometimes it is necessary.
Series C is the place where your burn rate is most important, as you now have 100 employees (as opposed to ten). You must also balance a huge influx and outflow of cash. As such, you must calculate and report to investors how much money you plan to burn annually, depending on your best estimate of your hiring roadmap, sales team growth and wages schedule. This can be tricky because if you don’t find a great sales team or hire more developers than you can afford, your burn rate will blow through the roof. You don’t know what your ramp-up process will be like, so you must tread a highly cautious path to keep everything as close to your plan as possible.
In Series C, you can afford to entice workers with benefits and good salaries and perks. However, emotional buy-i is still the most important aspect of hiring. If a person’s goals and values do not align with your company’s, their skills are not worth the paycheck. These people won’t go above and beyond to deliver 10x the value of a typical employee. Find the linchpins, as Seth Godin puts it, who are excited to come into your office and make your dream happen because it’s their dream too.
Ideally, Series C is the last round of funding you’ll need to source because you've successfully created a profitable revenue stream. Congratulations: you now have navigated beyond start-up into a fully fledged company.
Karl Hardesty is the CEO and Founder of Hardesty, LLC, a national executive services firm providing both executive search services and on-demand executives to companies. The Hardesty firm has built their reputation in the CFO space based upon their rapid deployment of experienced financial management resources through interim and project-based engagements. Hardesty also specialized in other C-Suite roles including CEO, COO, CIO and VP of HR.
Hardesty has grown rapidly since its inception in 2011, making Orange County’s Fastest Growing Company list for 2014 and 2015. The firm and its affiliates currently have offices in 10 major markets in the US.
Rick Girard is the Founder & CEO of Stride Search, an Orange County Recruiters and Consulting firm. Rick brings world-class leadership to firms across the nation to meet highly challenging business and talent acquisition objectives. With expertise in creative sourcing, consultative management and winning placement strategies, Rick Girard plants the hiring seeds for his partners’ success.
While not running a School for Gifted Mutants as Professor X, Rick hosts Hire Power Radio Show, a weekly series on OCTalkRadio.net which serves as an entrepreneur’s resource to solve the most difficult hiring challenges. When not on the air, Rick regularly gives talks and writes valuable content for Hiring Managers and Job Seekers alike. His mission: elevate and sharpen the industry standards of exclusive professional search.