Burn rate

Burn rate

Burn rate is a synonymous term for negative cash flow. It is a measure for how fast a company will use up its shareholder capital. If the shareholder capital is exhausted, the company will either have to start making a profit, find additional funding, or close down.

The term came into common use during the dot-com era when many start-up companies went through several stages of funding before emerging into profitability and positive cash flows and thus becoming self-sustainable (or, as for the majority, failing to find additional funding and sustainable business models and thus going bankrupt). In between funding events, burn rate becomes an important management measure, since it together with the available funds provides a time measure to when the next funding event needs to take place.

Some claim, that part of the reasons behind the dot-com bust, was the unsound management and financial investor practices to keep the burn rate up, taking it as a proxy for how fast the start-up company was acquiring a customer base.

Aside from financing, the term burn rate is also used for projects to determine the rate at which hours (allocated to a project) are being used, to identify when work is going out of scope, or when efficiencies are being lost.

Burn rate is calculated via the formula, 1/ CPI, where CPI stands for Cost Performance Index, which is equal to Earned Value / Actual cost.

The term burn rate can also refer to how quickly individuals spend their money, particularly their discretionary income. For example, Mackenzie Investments commissioned a test to gauge the spending and saving behavior of Canadians to determine if they are “Overspenders.”

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