In the world of startups, there are about 9 failed businesses for every single one that succeeds. It’s the kind of statistic that’s enough to keep even the most seasoned founder up at night. If you take a peek inside that statistic, you’ll also find that the majority of startups that fail (besides those that were badly conceived in the first place). Many fail because they fail to keep their burn rate in check and then run out of investors who are willing to fund their operations.
Part of that can be chalked up to sheer mismanagement. After all, many founders fall victim to the notion that the financial tap won’t ever dry up – and they spend like there’s no tomorrow. A surprising number of others, though, suffer from the opposite problem. They treat their startup’s burn rate like it’s etched in stone. Some companies are unwilling to either spend more or less than their estimates indicate. They don’t consider the facts on the ground and what the facts are indicating they should be doing.
The latter group also tends to spend every waking moment in the pursuit of lining up new financing. As a result, they neglect the very things that will determine the future of their startup. While they make the rounds looking for money, product lines stagnate, customer service suffers, and innovation grinds to a halt. The result is that their startup goes belly-up anyway, like a bunch of grapes left to whither on the vine.
The natural question is how, then, is a founder supposed to strike the balance between over-managing burn rate and profligate spending? And how can they even recognize the condition their startup’s in from the inside, so they can take corrective action before it’s too late? To help, here’s a look at what the two extremes of startup cash management look like. If you see your startup reflected in either of them, it’s time to make some changes.
The Go-Go Startup
I refer here to startups that waste their financing as though there’s an endless supply of cash waiting to be brought in the doors as go-go startups. The reason is that the term is emblematic of the attitude that such startups tend to adopt. The people in charge see spending more as a symbol of getting things done, and can’t resist the lure of jumping into everything with both feet before looking at where they’re likely to land.
To be more specific, they tend to throw excessive amounts of cash in the following areas:
One of the areas where startups tend to overspend is in hiring staff that their development cycle does not yet call for. For example, it’s common for startups to begin building out a massive marketing department long before they have a minimum viable product (MVP) to bring to market. At best, the only value those marketers will be able to generate is in building up hype for a nonexistent product. Then, if your MVP doesn’t live up to expectations, you’ll have burnt up cash just to harm your own fledgling brand’s image.
To avoid this pitfall, it’s essential to spend your startup’s money on building a product and getting it in front of potential customers before almost anything else. All of the other business functions that you might view as essential early on should be put on hold until you find out if the business itself has a viable market to focus on in the first place.
Another area where startups tend to go overboard is in finding and securing their office spaces. Recent history is littered with failed startups that went from inhabiting posh, palatial offices to bankruptcy proceedings seemingly overnight. It’s easy to understand why. In recent decades, venture capitalists have prized style over substance, and part of generating a positive buzz comes from having a feature-story-worthy office.
The problem is that crazy office spaces and the perks they enable cost money. That money would be better spent on creating products and services that drive revenue, however. Plus, all those office perks that reporters breathlessly laud don’t have much correlation to success. In fact, they may even kill your startup’s productivity.
Excessive Promotional Materials
If there’s one thing that profligate startups seem to love, it’s branded swag. If you can put a logo on it, they’ll buy it in bulk. Bonus points if the item is unique, expensive, and trendy (remember how every tech startup was handing out business card CD-ROMs during the .com boom?). The truth about all of that stuff, however, is that nobody cares. Nobody, except the marketing firm you’re shoveling all of that money at.
The Go-Slow Startup
On the other end of the startup spending spectrum is the type of company that I like to call the go-slow startup. For them, it seems like the primary purpose of operating isn’t to make money, it’s to attract investment – whether it’s needed or not. At the same time, conserving operating cash isn’t a goal; it’s an all-consuming priority, often to the detriment of the business.
Go-slow startups often exhibit the following characteristics:
Putting Funding Before Customers
The ethos of the go-slow startup seems to be: if we raise the cash to stay in business long enough, the customers will come. In truth, this is an idea that rarely, if ever, translates into reality. In service of it, startups sometimes use up their valuable time and manpower chasing VC funding rounds to the exclusion of almost every other useful business activity.
This is folly for several reasons. First, venture capital isn’t always appropriate for every startup. Second, investors mean expectations. Those expectations can take over the direction of your startup and push it toward decisions you’d have never made otherwise.
In the early stages, this can rob a founder of the flexibility they need to execute their vision. Instead of chasing funding, it’s much more important to spare no effort to build a loyal core of customers that will help keep your bottom line healthy – and that will grow along with your product or service.
Funding for Funding’s Sake
Another sure sign of the go-slow startup is the tendency to seek new funding sources every time there’s even a hint of progress on the business side. More often than not, there’s no particular reason they need the cash, except to build up a funding cushion in anticipation of harder days ahead.
In the past, I’ve seen startups manufacture every possible excuse for this behavior, from the diminished purchasing power of the falling US dollar to a desire to take advantage of historic low-interest rates on business working capital loans. I’ve even had a founder tell me they were raising money “because it’s there.”
The problem is the money a startup raises isn’t free. If there’s no real plan for how to use it to drive the company forward, taking on additional investors can have some pretty serious drawbacks. The bottom line is that a well-run startup should only raise money when it needs money, and only when that need is related to the startup’s actual business goals.
Hoarding Cash and Making Unreasonable Demands
The last characteristic of the go-slow startup is one that I consider to be the cardinal sin of all early-stage businesses. It happens when the startup is so consumed with building a cash reserve that it begins starving its own organization of needed resources. This usually shows up in the form of a stubborn refusal to hire needed staff (as opposed to the excessive staffing discussed earlier), followed by an ever-increasing burden on existing employees.
Now, it’s invariably true that startup employees typically work long hours in service of a greater goal. It’s just that there’s a limit to what a startup should expect of its dedicated employees. They’re not a fixed asset. They’re not machines. If you push them too hard, they’ll leave — and take your startup’s soul with them.
The problem is that many startups have dedicated employees that will keep acceding to unreasonable demands until they literally break down. At that point, it’s a situation beyond repair. For that reason, if your startup is doing this, make changes immediately.
Getting Things Right
The goal for every startup should be to pursue burn rate management in the manner most appropriate for their specific circumstances. As you can see, there are quite a few ways that companies can be either too passive or too aggressive in their approach, and none of them ends well.
Put simply, though, if your startup is exhibiting any of the qualities listed here, you need to reexamine your situation and make adjustments as needed. If you don’t, your startup may well end up joining the majority of its peers in irrelevance and insolvency – and not because it was a bad idea in the first place.