What warning signs should you look for when evaluating a startup's cash flow?

I've observed some high burn rate startups succeed, yet it's crucial to scrutinize this metric carefully. Use peer analysis (similar geography, maturity, revenue model) for context, but remember, no two companies are alike. Burn rates should decline in time because life time value will increase (lower churn and higher prices), CAC will go down (more organic growth, higher reputation, better solution) and finally, the number of clients will go up. But, fixed costs won't increase in line with sales if it is a scalable business. Continue to monitor whether the lower burn assumptions are coming to pass once a month or quarter. Challenge management if not.

Startups need to burn to grow rapidly. However high burn rate relative to other startups in similar industry (different industry eg e-commerce, EV, etc would have different burn) is a red flag. Another way to gauge the burn rate is to consider the unit economics, how is the burn contributing to the profitability. For example the cost of customer acquisition should reduce over time, while the long term value of the customer should increase. If there's no clear indication of such, the startup may never achieve profitability regardless of the burn.

When evaluating a startup's cash flow, warning signs to be wary of include consistent negative cash flow from operations, a high burn rate exceeding revenue generation, frequent reliance on external funding to sustain operations, delayed payments to creditors or suppliers, and inadequate working capital. Additionally, fluctuating or declining cash reserves, inability to meet debt obligations, and unrealistic cash flow projections are red flags. It's crucial to scrutinize the cash flow statement for these indicators to gauge the financial health and sustainability of the startup.

Depending on industry, stage, and competitive environment burn-rates might vary significantly. However, I would prefer portfolio companies to first ensure product / market fit before starting to experiment with different (costly) go-to-market tactics. Conscious scaling is a skill that needs training.

Startups with runway less than 9 months is a cause for concern for investors on many fronts. It could be fund raising is not timely, cost have ran out of control, revenues are not on target etc. Plan ahead for raising investment, and maintain comfortable runway of around 18 months (more is not necessary better, not optimising valuation).

A low cash conversion cycle signals efficient operations, indicating a startup’s capability to quickly turn inventory into cash, reflecting strong market demand and operational prowess. While this agility supports liquidity and reduces reliance on external financing, it’s crucial to monitor the underlying factors closely. To mitigate risks, startups should aim for strategies that maintain product and service excellence while optimizing their cash conversion cycle. This includes adopting just-in-time inventory management, enhancing customer payment processes, and strategically managing supplier terms without compromising the quality or value proposition.

Our general advice in the current raise environment is to seek enough capital for a minimum of 18 months runway, but preferably 24 months. Rounds are taking longer to close, diligence and assessment of financials is being critiqued more and a founders ability to manage capital is being scrutinized. Raising for 18 months means you only have 12 months of execution time before you have to raise again, is that enough time to hit key milestones to show investors you are worth investing in again? Find the right investor, who believes in your thesis and has the ability to follow on if they need to.

Rule number 1 for startup founders - Don't die!, ie dont run out of cash. Plan ahead for raising funds, control the burn and be effective to grow the metrics that next ground investors are looking for (MVP stats, tractions, revenues, etc). While making profit or bringing in revenues may not be the most important for early stage startups, cash flow may indicate business model and financial viability - things that investors care the most.

- Assess how founders react to cash flow challenges beyond just the numbers. Their response is a resilience and innovation litmus test. Founders who can pivot, secure better terms, or creatively prolong their runway demonstrate a mindset essential for enduring success. - While rapid growth is appealing, sustainable growth should be the focus. Startups that harmonize growth with cash flow sustainability show a profound comprehension of their business model. - High customer engagement is a concealed asset for startups grappling with cash flow difficulties. Such engagement not only provides invaluable feedback but also indicates the startup's capability to adapt quickly and confirms its market fit.