The runway is a great metaphor often used by startups to describe the cash flow required to keep operations afloat.
Let me elaborate:
Cash is king for a startup: without it, a startup cannot exist. Burn rate is the rate we spend the money, with which we can then estimate how long we can go (the runway) until either one of three things happen: 1) lift-off (profitability), 2) crashing, or 3) refueling (raising more investment). Since startups are often fairly complex and difficult to operate, you can’t just expect to have a short runway before lift-off. You have to plan for it.
I’ve met too many startup founders who just proceed with jumping in without planning this in detail. The leap is a great one, but it has to be planned.
Hmmmm… I think the best way to describe this is by using a story. Let’s try to imagine then…
Our main character, Mario (28 and single), has been in the corporate setting for 10 years now. Mario works fulltime as a project manager for a big IT firm. He’s been planning to put up a tech startup for quite sometime now, and has been working on his startup idea part-time. His partner, uhm…Luigi (30, married with 2 kids), is a genius with Ruby on Rails. Mario and Luigi have been working on their startup concept “E-career Mo,” a new job portal concept, for 6 months now. Luigi has the beta version ready, but they have been dilly-dallying on when to actually launch, because to do so would mean someone would need to manage customer questions, someone would need to collect money, someone would need to gather feedback, etc…
Realizing Luigi would have difficulty going fulltime because of his family situation, Mario takes the challenge on and says: (to the tune of the Chariots of Fire theme) I WILL TAKE THE GREAT LEAP! FULLTIME IT IS!
Mario tells Luigi of the great news and they are both pleased. There and then, Mario and Luigi pledge 40K each as initial capitalization to E-career Mo. Soon, the startup is launched!
Mario and Luigi agree that Mario will be paid 30K per month. Luigi feels this is a bit too much, but then thinks about where Mario came from (Mario was paid P60K a month in his day job), and then considers that Mario is his friend, so he eventually agrees. They both think, “Our concept is great! It will surely take us less than 2 months to be profitable!”
So they start. The E-career Mo makes around P10,000 in the first month. Then P12,000 in the second month. Cash flow per month looks like this:
Initial Cash: P80,000
Total Expenses: P38,000 (30K – salaries, 8k – other expenses)
Initial Cash: P52,000
Total Expenses: P36,000 (30K – salaries, 6k – other expenses)
Initial Cash: P28,000
By the end of month two, Mario was so scared that he’d have nothing by next month’s end. He doesn’t even get to consider the modest increase in revenues from month 1 to month 2. Panicking, he quickly accepts a job at another IT firm. The E-career Mo portal goes on “We are working on the site” mode, alienates its first few customers, and dies a quick death.
Ok. So I’m sure you’re now enumerating how stupid Mario is and all the things he did wrong. You’d be surprised though at how many entrepreneurs take the leap this way – thinking about the startup and not thinking about himself. While the startup was planned, the LEAP was never planned from the onset. You have to plan for the leap. Carefully.
YOU, the founder, are the most important part of the startup. You have to plan and think about what happens to you. Remarkably, the founder sometimes forgets about his particular role as he gets too caught up in the excitement of building. Instead of building and then creating contingencies, create contingencies AS you build.
Let’s take a look at another way Mario and Luigi could have gone.
In the alternate universe, Earth X, Mario begins talking to Luigi about his startup idea, E-Career Mo. Luigi loves the idea and agrees to partner with Mario. Mario then brings up that they should be fiscally planning for the startup as well. Mario and Luigi agree that at some point, Mario needs to go fulltime. Luigi estimates he can finish a beta version in 6 months. Mario then computes carefully what the LEAST AMOUNT of salary he can survive on will be. (he calculates this at around 20K) Mario then agrees to save 30K per month for the next 6 months. Luigi pledges to save around 5K per month as well.
In addition, Mario also creates contingencies: if at the 5th month of his leap fulltime, the burn rate is still above 15K a month, then he will have to look for a fulltime job already. If the burn rate is below 15K a month, then he will try looking for weekend tutoring work to supplement his income.
After 6 months developing the beta, Mario takes the great leap and says, I WILL TAKE THE GREAT LEAP! FULLTIME IT IS!
The initial capital raised sums up to P210,000. Mario gives himself his planned 20K salary. In this alternate reality, the runway is a lot longer – and this makes all the difference. Mario can wait it out until he hits profitability. The months look like this:
Initial Cash: P210,000
Total Expenses: P28,000 (20K – salaries, 8k – other expenses)
Initial Cash: P192,000
Total Expenses: P26,000 (20K – salaries, 6k – other expenses)
Initial Cash: P178,000
Total Expenses: P25,000 (20K – salaries, 5K – other expenses)
Initial Cash: P170,000
Total Expenses: P26,000 (20K salaries , 6K – other expenses)
Initial Cash: P165,000
By the fourth month of operations, E-career Mo is making close enough to cover Mario’s salary and the unexpected costs. By the end of the year, E-career Mo creates enough revenue that it hires Luigi and 2 other employees to support operations. Startup success!!!
I know the story is simplistic and leaves out a lot of detail. There are some key lessons we can learn from the two Marios though:
Mario took a hit and sacrificed P30,000 a month as investment money for 6 months. You can bet he tightened his belt and made lifestyle sacrifices. If you realize you are too attached to your lifestyle that you cannot sacrifice your attachments and luxuries so you can aid your startup, then this might not really be the path for you. Entrepreneurial startup founders treat their firm like their babies – they will do anything to make it succeed.
2) Account for surprise expenses
If you notice, one thing Mario 1 failed to do was account for the miscellaneous “other” expenses. From printer ink, to furniture, daily messenger rental fees, to legal notarization, these add up pretty fast. In your calculations, create a buffer precisely because you WILL spend more than you think you will.
3) Create contingencies triggered by specific fiscal milestones
This is a biggie. Mario 2 created specific contingency plans – looking fulltime or part-time work if the burn rate was below or above 15K. This contingencies help you not only mitigate, but understand the risks better.
4) Aim for Ramen Profitability
Renowned entrepreneur and investor Paul Graham describes this in his blog as:
Ramen profitable means a startup makes just enough to pay the founders’ living expenses. This is a different form of profitability than startups have traditionally aimed for. Traditional profitability means a big bet is finally paying off, whereas the main importance of ramen profitability is that it buys you time.
It buys you time. It makes your runway longer. Not only that, but it gives you enough confidence to finally say, “Hey, I don’t need some corporation to live my life!” I remember feeling this way. It was confidence-boosting, empowering, and inspiring – feelings you absolutely need to carry on.
5) Do It Yourself
I know it’s tempting to outsource services such as payroll, accounting, recruitment, etc…, especially if you think these are “non-strategic.” But for the sake of lengthening the runway, it makes a whole lot of sense to do it yourself first, or perhaps you can pursue “X-deals” with providers.
6) Watch Your Hiring Costs
If you absolutely have to hire, consider the Runway. Perhaps you could reward using equity, or a higher future salary. Startups cannot afford to get mercenaries – you need people who are in it for future benefits, not immediate ones. It is easier to explain to this type of person that you could give him much higher pay in a year – but now, you sort of need to lowball him to give the firm a healthier chance. If you hired the right person, he will understand.
Primed for lift-off? Make the runway a serious project.
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