Burn Rates

Published on Twitter, 25 Sep 2014.

Recently Bill Gurley and Fred Wilson have sounded a vivid alarm.

I said at the time that I agree with much of what Bill says, and I want to expand on the topic further.

New founders in last 10 years have ONLY been in environment where money is always easy to raise at higher valuations. THAT WILL NOT LAST. When the market turns, and it will turn, we will find out who has been swimming without trunks on: many high burn rate co's will VAPORIZE.

High cash burn rates are dangerous in several ways beyond the obvious increased risk of running out of cash. Important to understand why:

• First: High burn rate kills your ability to adapt as you learn & as market changes. Co becomes unwieldy, too big to easily change course.

• Second: Hiring people is easy; layoffs are devastating. Hiring for startups is effectively one way street. Again, can't change once stuck.

• Third: Your managers get trained and incented ONLY to hire, as answer to every question. Company bloats & becomes badly run at same time.

• Fourth: Lots of people, big shiny office, high expense base = Fake "we've made it!" feeling. Removes pressure to deliver real results.

• Fifth: More people multiplies communication overhead exponentially, slows everything down. Company bogs down, becomes bad place to work.

• Sixth: Raising new money becomes harder & harder. You have bigger bulldog to feed, need more and more $ at higher and higher valuations.

  Therefore you take on escalating risk of a catastrophic down round. High-cash-burn startups almost never survive down rounds. VAPORIZE.

  Further, to get into this position, you probably had to raise too much $ at too high valuation before; escalates down round risk further.

• Seventh: Even if you CAN raise an up round, you are increasingly likely to incur terrible structural terms like ratchets to chin the bar. That nice hedge fund investor willing to hit your valuation bar? Imagine him owning 80% of co after down round. How nice will he be then?

• Eighth: When market turns, M&A mostly stops. Nobody will want to buy your cash-incinerating startup. There will be no Plan B. VAPORIZE.

Finally, there are exceptions to all this. But if you're reading this, you're almost certainly not one. They are few and far between.

Worry.