What is a company’s run rate?
A company’s run rate is a measure of its financial performance based on its current rate of revenue generation. It’s also sometimes used when there is a shift in the fundamental business operations, such as launching a new product, or shutting down another. Typically, run rates are calculated based on a period of no less than three months, and are extrapolated to one year.
What is a company’s run rate used for?
A company’s run rate is used to project its future financial performance. This metric is a key consideration for investors who are assessing a company’s valuation. It can also be used to benchmark a company’s financial performance against its peers.
Why is understanding your run rate important?
There are a number of factors that investors consider when determining the valuation of a startup, however, financial performance, and more specifically, run rate, is one of the most important. While past performance is not necessarily indicative of future performance, it certainly plays a role in the ultimate decision investors make.
How to calculate a company’s run rate?
To calculate a company’s annualized run rate, take their current monthly revenue and multiply it by 12. Alternatively, if you have their quarterly revenue, multiply it by four to get to the same metric. Similarly, if you have their weekly revenue multiply it by 52.14 or if you have their daily revenue multiply it by 365.2.
For example, if company XYZ generated $100,000 in revenue last month, its run rate would be $1.2 million per year.
When to use MRR (and when not to) when calculating a company’s run rate?
If a company is growing quickly, using MRR (monthly recurring revenue) to calculate its run rate may give a less accurate picture of its future financial performance. This is because MRR includes one-time revenue inflows and outflows, such as customer churn or one-time purchases and seasonal peaks.
So for example, if you looked at a retail company’s sales in the months of November and December to calculate its annual revenue, you would come out to a much larger number than is representative. At the same time, MRR may not necessarily provide an accurate picture of the company’s financial performance if they suffer a one-time dip in sales.
The scenarios above explain precisely why investors consider much more than a company’s monthly revenue and run rate, when making an investment decision.
Relationship between a company’s run rate and its burn rate?
A company’s burn rate is the rate at which its cash outflows exceed its cash inflows. A high burn rate may be a red flag for investors, as it may indicate that a company is not generating enough revenue to sustain its current level of spending. However, it may also signal that the company is investing in growth opportunities to improve its run rate.
For example, if a company’s run rate is lower than its burn rate, it may be at risk of running out of cash. On the other hand, if it is higher than its burn rate, it may have the cash required to fuel its growth and pay down its debt.
What is the relationship between a company’s run rate and its runway?
A company’s run rate and its runway are interrelated. Runway is the amount of time in which a company can maintain its operations based on its current burn rate.
A company with a high run rate and a low burn rate will have a longer runway than a company with a low run rate and a high burn rate.
Additionally, a company that is growing quickly, with high burn rate, but low cash balance may have a shorter runway than a company that is not growing as quickly, but has a low burn rate.
Relationship between a company’s run rate and its annual financial performance?
A company’s run rate can be used to predict its future annual financial performance. This is because a company’s annual run rate represents its current monthly revenue multiplied by 12.
However, as mentioned above, it’s important to keep in mind that a company’s run rate is not always an accurate predictor of its future annual financial performance. This is because it can be affected by one-time events, such as a new product launch or a major contract.
Relationship between a company’s run rate and its valuation?
Investors may use a company’s run rate to predict its future financial performance and assess its risk. For example, if a company has a high rate and is growing quickly, it may be seen as a more risky investment with a higher potential return than a company with a low rate and slow growth.
However, not all investors will use the rate to assess its valuation. Some investors may instead focus on other financial metrics, such as ARR (annual recurring revenue) or EBITDA (earnings before interest, taxes, depreciation, and amortization).
Benefits of using a company’s run rate in its valuation?
There are a few benefits of using a company’s run rate in its valuation. First, it is a simple metric that can be easily calculated. Second, it can represent a company’s current monthly revenue multiplied by 12, which gives an annualized figure. This can be helpful for investors who are trying to predict a company’s future financial performance.
Additionally, using a company’s run rate in its valuation can help compare it to other companies in its industry. This is because it is an industry-standard metric.
Drawbacks of using a company’s run rate in its valuation?
Despite the benefits, there are a few risks of using a company’s run rate in its valuation. First, it can be misleading because it doesn’t take into account a company’s growth. For example, if a company is growing at 10% per month, and it generated $100K in its most recent month, its annual run rate would be calculated at $1.2M (growth rate aside). Whereas, if it maintained a 10% growth rate each month for the full twelve months, its annual revenue would actually be $2.1M.
Limitations of using a company’s run rate in its valuation?
There are a few limitations of using a company’s run rate in its valuation including:
- Uncertainty: It is only an estimate of its future financial performance, and it can be affected by many factors, including changes in the market, technology, and competition. As a result, there is always some uncertainty when using a company’s run rate in its valuation.
- Short history: It may not be indicative of its long-term financial performance, especially if the company is young or has been through a period of rapid growth or decline.
- Seasonality: Seasonality can impact the ultimate calculation, making it difficult to extrapolate from one period to another.