Cash runway measures business solvency, given relevant range. Its main purpose is to help you determine how many months you have left in running your business by determining your current cash balance against your cash burn.
For example:
Suppose you had $700,000 in cash and your cash burn is $93,000 for April 2020. Holding all sales, cash collections and expenses constant, you will have 8 months remaining in cash life.
Formula: Current Cash Balance divided by Current Cash Burn
This shows that in 8 months your business will become insolvent. In other words, you will not have enough cash to cover your expenses after the 8th month and can force you to scramble for short-term financing. This is an important metric to input into your financial model, as you must plan to either increase your sales, cut your expenses, and/or seek financing to ensure your business remains solvent. Cash runway is not meant to show precision, but flexible enough to give you a range of your cash life, so you may forecast business operations based on reason.
In the practical business world, not all sales, cash collections, and expenses remain constant. It is important to have your financial statements and financial plan updated on a monthly basis. This helps in keeping the cash runway relevant to your current business sales and obligations.
In times of economic uncertainty, it is especially important to keep a close eye on your sales as systematic downturn can cause your business to lose some serious cash. Simply cutting expenses is not going to help your business survive, as with most fixed costs, they always remain an obligation, inelastic to the fluctuation of sales.
Mustafa Chaudhry, CTP
Passionate about finding financial efficiency and data-driven decisions
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