In terms of business applications, a run rate is understood to be an evaluation of the current financial performance of a given company and projections for future operations or runs given the current set of circumstances. Projecting run rates can be helpful to business in many ways, including budgeting and scheduling labor and other resources to meet projected increases or decreases in overall productivity. The use of a run rate can also help in assessing the overall health of stock options issued by the company, and how those stocks will perform in future periods.
Essentially, a run rate involves defining recent performance as a means of projecting the anticipated future performances associated with upcoming time periods of the same duration. Intrinsic to the formula of a run rate is making an assumption that the business can be expected to continue performing at the same level as the current period. For example, if the semi-annual financial report indicates a company made a net profit of ten million dollars during the first six months of the year, it could be said that the company is functioning at an annual run rate of twenty million dollars.
The basic structure of the run rate is very simple, and does not take into account a number of variables that could impact a company’s performance. First, it does not take into consideration seasonal changes in consumer demands. This can be especially true for retail businesses, where specific times of the calendar year are well known to generate higher levels of revenue than others.
Second, a run rate does not consider such factors as changes in the marketplace. Technology that is cutting edge today could be obsolete within a year, thus impacting the bottom line of a company that has continued to produce the older technology and is experiencing a reduced market share as a result. Last, this evaluation does not take into account political changes, and how that factor can impact consumer confidence and thus change the demand for goods and services.
Still, the run rate can be helpful within the context of assuming that all factors will remain equal. Planning budgets based on this rate, but also allowing some room for cuts or reallocations when circumstances change, is always a key function in planning a workable budget.