Every entrepreneur loves their baby and thinks their idea is the next big thing. However, the facts do not lie. Reviewing the venture capital exit funnel from 1991 to 2000 reveals the harsh reality of startups and the challenges for venture capitalists.
There is a lag in performance information for start-ups, as it can take three to seven years to determine success or failure. The National Venture Capital Association’s Venture Impact study highlights winners and losers between 1991 and 2000. Of 11,686 companies founded, only 1,636 (14%) had an Initial Public Offering (IPO). Other, 3,856 (33%) were acquired. Combined, there were 5,492 (47%) startups that had positive exits. Of the remainder, 2,103 (18%) were outright failures and 4,090 (35%) were presumed “undead.” The “walking dead” or “bobbers” are start-ups that haven’t completely failed, but have never made enough money to break free. For most, it’s only a matter of time before the doors close. So the winners vs. losers are 47% to 53%. Ironically, these are the same odds as betting “black” at the roulette table in Las Vegas (to avoid tons of emails – remember there are two greens on the table, too).
Unfortunately, there is little detailed information about why start-ups succeed or fail. They are much more difficult to analyze than public companies whose information is, by definition, public. Successful founders often have stories, but not complete ones. Failed founders are relatively reluctant.
So how does a startup get into the 47% successful? A team that can work together under stressful conditions and has a wide range of skills, from engineering to business, is the most cited criteria in start-up success stories. Quality capital is another. Having a good, top-tier venture capitalist who knows the landscape, understands the business, and can make presentations is critical. These presentations often provide the catalytic push to propel a company forward and outpace the competition (if your product works). Raising capital from friends and family for my first startup was an exercise in utter frustration, as I spent a great deal of time on calls explaining the business and its rationale, as well as chatting about when they would get their money back. My advice is to get smart, quality capital. Competition is another big challenge. Competing with other startups can propel your business to new heights and help build a new market. However, if Microsoft, Oracle, Dell, Apple, Cisco, Intel or other 800 lbs. gorilla has made your strategic vision its corporate objective, a startup cannot compete; be acquired or find another niche. As a general rule, you need ten times the capital to compete against an established player. Spending a little on stock options to retain quality advisors is also a common theme in success stories. Being able to bounce off ideas from someone who’s been there and been successful is worth every last stock option. Startups should make sure advisors are available for calls and meetings, but don’t expect them to run the business. Building a startup’s war chest of capital, talent, and advisors yields significant benefits over those who don’t.
The category in which entrepreneurs never want to be classified is that of the “living dead” or “bobbers”. So how do you know if you’re a “bobber”? Being objective is a good start. Personally, they are the most demoralizing companies to come across. After being hired for acquisition due diligence in 2007, I met with a couple dozen start-ups that were founded between 1999 and 2004 across the United States. Most were struggling and generating some income, but it was enough to break even. Most did not have the capital to drive R&D, let alone expansion. Like a swimmer in the rising waves of an ocean storm, companies barely kept their metaphorical head above the water…they just bobbed for a quick breather and then went back down. With five to seven years of their lives dedicated to their startup, founders would launch their companies with such passion and conviction, but the stress and strain of the years weighs down on them, like an anchor. You could see the desperation in their eyes and hear the tremor in their voices, as they tentatively asked about their next steps. They knew their technology was getting outdated and there was nothing they could do about it. With their original VC funds drying up after seven to 10 years, most were in a race to get new VCs, get acquired, or just close the doors. Without cash flow to fuel development and growth, technology companies slowly wither and die. To succeed or fail early is a blessing; to languish year after year without either is pure hell. If this description resonates, the startup is a “bobber.”
Although every entrepreneur’s idea is the next big thing and everyone loves the baby, the facts are that 53% of all startups fail. Venture capitalists know this fact and have been thinking about it from the second year the entrepreneur has sat down with them. They also know that capital is only one aspect of a startup’s success. To improve the odds, entrepreneurs need to have assembled a strong team, done their marketing homework, and thought about the business, not just their idea.