Prepayments vs Accruals: Practical Accounting for Biotech Clinical Trial Cash and Burn

Clinical Trial Prepayments vs. Accruals: A Biotech Founder's Guide

That huge invoice from your Contract Research Organization (CRO) just hit the bank account, and your cash balance takes a nosedive. It can feel like a year's worth of funding vanished overnight, yet the clinical trial has barely begun. This single transaction can obscure your true burn rate, making it incredibly difficult to forecast your runway accurately for your board and investors. The core challenge for biotech startups is not just managing cash, but correctly timing expenses to reflect the reality of your R&D progress. Getting this wrong clouds your financial visibility and can impact everything from investor confidence to compliance. For a foundational overview, see our introduction to trial cost accruals.

The Core Problem: Why Cash Movement Isn't the Same as an Expense

When your bank account drops by $500,000 for a CRO payment, a founder’s first instinct is to ask, “How is that a single month’s expense?” The simple answer is, it isn’t. The disconnect comes from confusing a cash event with an expense recognition event. For venture-backed startups, the standard is accrual accounting, which is based on the Matching Principle. This principle dictates that you must record expenses in the same period as the work that was performed, regardless of when cash changes hands.

This method is essential for accurate financial reporting. Compliance with GAAP (Generally Accepted Accounting Principles) in the USA and IFRS (International Financial Reporting Standards) in the UK is required for an auditable set of accounts. In practice, the most critical distinction for founders to grasp is this: paying for a service and expensing a service are two different events. The payment impacts your cash flow and balance sheet. The expense impacts your Profit & Loss (P&L) statement and burn rate. Aligning these two correctly is the key to mastering your clinical trial budgeting and financial storytelling.

Taming Your Runway: How to Handle CRO Prepayments

So, how do you account for a large upfront CRO payment so it does not look like you burned a year's worth of cash in one month? You do not record it as an immediate expense. Instead, you treat it as a prepaid expense, which is an asset on your balance sheet. Think of it as a gift card for future research. You have paid for the value, but you have not used it yet. It’s an asset, not a cost.

When the $500,000 leaves your bank, your accounting entry in QuickBooks or Xero would show cash decreasing, but another account, “Prepaid Expenses,” increases by the same amount. The net effect on your company's total assets is zero, and your P&L remains untouched. Your burn rate for that month does not spike, giving you a clearer picture of your clinical trial cash flow.

Then, as your CRO performs the work each month, you “amortize” or draw down this asset. If the $500,000 payment covers five months of work, you would move $100,000 from your Prepaid Expenses asset to your R&D Expenses on the P&L each month. This entry reflects the value of work performed in that period. This approach provides a smooth and accurate representation of your monthly burn, allowing for better research cost forecasting and management. It solves the pain point of a lumpy, misleading P&L that gives investors a distorted view of your operational efficiency.

The Other Side of the Coin: Accruals for Work Done but Not Billed

Prepayments solve one part of the CRO invoice timing puzzle, but what about the opposite scenario? What happens with pass-through costs or work your CRO did this month that will not appear on an invoice until next quarter? If you ignore these, your burn rate will look artificially low, which is just as misleading as an artificial spike. This is where accruals come in, a critical component of biotech expense tracking.

CROs can often be 30 to 60 days behind on invoicing for pass-through expenses such as patient-related costs, lab fees, or IRB fees. To comply with the Matching Principle, you must account for these costs in the month the work occurred, not when the invoice arrives. An accrual is essentially a recognized IOU. You record an expense on your P&L and a corresponding liability on your balance sheet called “Accrued Liabilities.” This is your IOU for work already delivered.

To do this, you need to estimate the value of the work performed. This requires good communication and a clear process with your CRO. Ask them for a monthly report of units completed, like patient visits, sites activated, or data points collected. By applying the contracted rates to these activities, you can build a reliable estimate. When the invoice eventually arrives, you do not record a new expense. Instead, you clear the liability from your balance sheet and pay the cash. Managing CRO payments this way ensures your monthly financials are a true reflection of your R&D progress, preventing unwelcome surprises. For multi-country trials, see our FX considerations guide.

A Practical Guide: How to Handle CRO Prepayments and Accruals

This might sound complicated, but it can be managed with a simple, repeatable monthly process, even without a large finance team. While there are specialized tools available, the reality for most early-stage businesses is more pragmatic: a well-organized spreadsheet is often sufficient. You can compare tools in our Clinical Trial Accounting Software Comparison. Here is a startup-friendly “clinical close” process using a concrete example.

Scenario: A US-based biotech startup using QuickBooks pays a CRO a $600,000 upfront fee for a 6-month project. In Month 1, the CRO completes one-sixth of the core work and also performs $15,000 in pass-through services (e.g., patient screening) that will not be invoiced for 60 days.

1. Reconcile Cash and Invoices. The startup sees the $600,000 cash payment leave its bank account. This transaction is categorized to a balance sheet account, not an expense account.
2. Journal Entry (when payment is made):
3. Debit (increase) Prepaid Expenses: $600,000
Credit (decrease) Cash: $600,000
4. Adjust for Prepayments. At the end of Month 1, recognize the portion of the work that has been completed. The $600,000 fee covers six months, so one month's worth of expense is $100,000.
5. Journal Entry (end of Month 1):
6. Debit (increase) R&D Expense: $100,000
Credit (decrease) Prepaid Expenses: $100,000
7. Record Accruals. Based on a progress report from the CRO, the startup estimates $15,000 in un-invoiced pass-through costs for Month 1. This must be recorded as an expense and a liability.
8. Journal Entry (end of Month 1):
9. Debit (increase) R&D Expense: $15,000
Credit (increase) Accrued Liabilities: $15,000

Result: The total R&D expense for Month 1 is correctly stated as $115,000 ($100,000 + $15,000). The P&L is accurate, the balance sheet correctly shows a remaining prepaid asset of $500,000 and a new liability of $15,000, and the cash runway forecast is based on reality. For accurate runway modelling, see our Forecasting Biotech Burn Rate by Including Trial Accruals guide. For UK startups using Xero, the accounting principles and process are identical.

Practical Takeaways for Biotech Founders

Implementing a disciplined process for how to handle CRO prepayments and accruals is fundamental for any clinical-stage biotech startup. It directly addresses the most significant financial pain points: runway visibility, investor reporting, and compliance.

• Cash is not burn. These are two distinct but equally important metrics. Cash tells you how long you can survive; your P&L tells you how much it costs to operate each month. You need both to make sound strategic decisions about your clinical trial budgeting and overall company direction.
• Open the lines of communication with your CRO. Do not wait for invoices to understand your monthly spend. Proactively request monthly progress reports or activity data, such as patients enrolled, sites activated, or monitoring visits completed. The more data you have, the more accurate your accrual estimates will be, leading to fewer financial surprises.
• Systemize your monthly close. Whether it is a simple checklist in a spreadsheet or a more formal process, consistency is key. Every month, you should reconcile cash, draw down your prepayments, and book your accruals. At this stage, consistency is more important than complex tools.
• Ensure compliance and support tax credits. This isn't just about good housekeeping. A clear, documented process for matching expenses to work performed is critical for satisfying US GAAP or IFRS requirements. It also provides the robust documentation you will need to support and defend R&D tax credit claims in both the US and UK.

Frequently Asked Questions

Q: What is the main difference between a prepaid expense and an accrued expense?
A: A prepaid expense is an asset on your balance sheet representing a service you have paid for but not yet received, like an upfront CRO fee. An accrued expense is a liability representing a service you have received but not yet paid for, such as unbilled pass-through costs from your CRO.

Q: How accurate do my clinical trial accrual estimates need to be?
A: Your estimates should be as reasonable and well-documented as possible, based on data from your CRO. They do not need to be perfect. The goal is to provide a materially accurate picture of your monthly expenses. Any minor differences can be adjusted in the following month when the actual invoice arrives.

Q: What should I do if my CRO is late providing monthly progress data?
A: Proactive communication is essential. Make monthly data delivery a contractual requirement in your CRO agreement if possible. If they are late, base your estimate on the best available information, such as prior months' activity or your internal project management data, and document your assumptions clearly.

Q: How does proper handling of CRO prepayments and accruals help with fundraising?
A: It builds investor confidence. Clean, accurate financials demonstrate strong operational control and financial discipline. A predictable burn rate and a clear runway forecast allow investors to assess your capital efficiency accurately, making your company a more attractive and understandable investment.