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Why Start-Ups Fail

May 17, 2011


Recently, Laura Backes, a regular reader of this blog, sent me a link to an article that her company, DSL Service Providers, had posted on-line entitled “10 Recent Internet Start Up Flops.” The article begins this way:

“While there have been many successful businesses thanks to the internet, there have also been some flops. For every successful internet company that the public has heard of and recognize, there are many more that failed before they even had a chance to market themselves properly. Internet businesses can be just as competitive, if not more, then in-house businesses and while some are well known and others ran their course without many people noticing, here are some of the biggest internet start up flops since 2008 worth mentioning, remembering and then as fast as they came and went, forgetting.”

Number one on the list of failures is Geocities.com. The article reports:

“[Geocities.com was] part of Yahoo’s site which they purchased for $3.57 billion, it didn’t go off with a bang. Constant problems made this startup a failure from the start and by 2009 they called it quits. It opened in January 2009 and closed by October of the same year.”

Not all of the “flops” discussed in the article are out of business. Some of the companies simply had disappointing initial public offerings (IPOs) or failed to meet investor expectations. What struck me as I read descriptions of these so-called “flops” was the fact that there was generally a sound idea behind the company. The authors even say so. For example, they wrote: “Webvan was a good idea in theory” and “The idea [behind Kozmo] was a good one, but in the end, it didn’t pan out like investors hoped it would.” The folks at ChubbyBrain conducted a post-mortem on 32 failed start-ups to see what lessons they could learn [“Analyzing 32 Startup Failure Post-Mortems to Find the 20 Top Reasons that Startups Fail,” 11 January 2011]. Like the “Top 10 List” presented on the David Letterman Show, the Chubby Team reveals the “most common reasons for failure cited” in reverse order of their importance. Drum roll please!

#20 – Start the company at the wrong time — Many companies that failed started during the recent financial crisis … and some startups highlighted the larger market negativity as a reason for their ultimate demise.”

Spencer E. Ante pointed out that financially troubled times does not necessarily spell disaster for start-ups. “History shows that great companies are often built during bad times,” he writes. “In 1939, at the tail end of the Great Depression, two engineers started Hewlett-Packard in a garage in Northern California. Silicon Valley itself was largely created during the nasty recession of the mid-1970s. During that decade, entrepreneurs laid the groundwork for the boom of the 1980s, building companies that pioneered three new industries: Atari in the video game business, Apple in personal computers, and Genentech in biotechnology.” [[“Fertile Ground for Startups,” BusinessWeek, 23 November 2009] Of course, it really depends on the business. The Chubby Team points out, for example, that the recession was a really hard time to start a business dealing in art.

#19 – Not working on it full time — Startups are hard. They’re even harder when you’re pulled in a couple of different directions aka a day job. This came through in several post-mortems. If you’re working another full-time job with nobody fully invested, you are running the risk of burning out, acting with less urgency and just not having enough hours in the day to get what you need done. Also, with another job, there is the risk that a team acts with less urgency given they have sources of income.”

There are really mixed feelings on this point. Entrepreneur Luke Johnson believes that maintaining a job while starting a company is often a good strategy [“A job may be the best launch for a start-up,” Financial Times, 14 July 2010]. He writes:

“Occasionally, putative entrepreneurs ask me whether they should quit their job to start a business or do it part-time while keeping their current job. I usually suggest the latter strategy, because it worked for me.”

He also points out that he didn’t take vacations and didn’t have much time for his family. Only you can decide your priorities and your commitment to succeed.

#18 – Location, Location, Location — Location was an issue in two different ways. The first being that there has to be congruence between your startup’s concept and location. By way of crude example, if you’re building innovative trading software for Wall Street, be where you customers are and where you can best network. Location also played a role in failure for remote teams. The key being that if your team is working remotely, make sure you find effective communication methods; else lack of teamwork and planning could lead to failure. Location issues were given as a reason for failure 6% of the time.”

Although location was only a small factor in the failure of companies examined, location does matter. There is a reason that certain business sectors find themselves in so-called “clusters.” It’s not just a matter of clients but of talent as well.

#17 – Be unable to Attract Investors — While this may be a cousin of reason #20 (starting the company at the wrong time), there was a group of founders who candidly expressed that their inability to attract investors was the reason for their ultimate demise. If there is no money out there for your idea, reassess whether there is a market for it, and reassess your approach.”

As I pointed out in a post about lean start-ups, even if you are able to start a business on a shoestring, eventually you are going to have to obtain capital for supplies, wages, infrastructure, advertising, insurance, etc. Time and again underestimating the amount of capital needed has been identified as a serious problem for entrepreneurs.

#16 – Get outcompeted — Despite the platitudes that startups shouldn’t pay attention to the competition, the reality is that once an idea gets hot or gets market validation, there may be many entrants in a space. And while obsessing over the competition is not healthy, ignoring them was also a recipe for failure in 10% of the startup failures.”

As I pointed out in a post entitled First to Market vs. Late to the Game, being first to market with a good idea doesn’t guarantee that you are going to beat your competition. In fact, it may put you at a disadvantage. MySpace may or may not have seen Facebook coming. If its executives saw the challenge, they failed to meet it. The latest phenomenon, Groupon, certainly isn’t blind to its growing list of head-to-head competitors.

#15 – Burn Out — Work life balance is not something that startup founders often get and so the risk of burning out is high. The ability to cut your losses where necessary and re-direct your efforts when you see a dead end was deemed important to succeeding and avoiding burnout as was having a solid, diverse and driven team so that responsibilities can be shared. Burning out was given as a reason for failure in 12+% of the startup failures.”

As noted above in the discussion about working two jobs, burn out is a real possibility even if you you work being an entrepreneur full time. You have to expect to work 80+ hour work weeks.

#14 – Lose Focus – Distracted by Shiny Objects — Getting sidetracked with all the ‘could-bes’ was cited numerous times as a contributor to failure. It is important to get one thing out on the market and focus on one product else you risk ending up with too many almost finished products that are not valuable to customers or you.”

Cash-strapped entrepreneurs will face the overwhelming temptation to jump in front of any opportunity that brings in money. It may be a matter of survival. The problem is that chasing money often leads you down paths that take you away from pursuing activities that will actually help you achieve the objectives you established in the first place. Those distractions come from outside the company. The next cause of failure deals with distractions inside the company.

#13 – Disharmony with Investors/Co-founders — Discord with a cofounder was one of the most fatal issues for a company. … But acrimony isn’t limited to the founding team, … things [can] go bad with an investor [as well].”

Luke Johnson asserts that any office politics can create disharmony and bring down a business [“Start-ups focus on the true prize,” Financial Times, 23 June 2010]. He writes that “in entrepreneur-driven concerns, there is no room or time for such bitter internal feuding.”

#12 – Do not use your connections — We often hear about startup entrepreneurs lamenting their lack of connections so we were surprised to see that one of the top reasons for failure was entrepreneurs who said they did not properly utilize their own network. Whether it was for advice or introductions, almost 16% of the startup post-mortems stated that the team did not use their connections well enough, which led to failure. So what does this teach us? If you have a network (and everyone does), be judicious in using it, but be sure to use it.”

This is a good topic and one I’ll try to address in a future post.

#11 – Pricing Issues — Pricing is one part science, 10 parts art. And a dark art according to a large number of startups which failed and who attributed product pricing that was too high or too low to make money. For example one entrepreneur said, ‘It took a lot of key chains bought at 50 cents and sold for $1.25 just to pay the phone bill.’ The founder of EventVue said that their deadly strategic mistake was that they ‘went after enterprise sales model with a non-recurring, small price.'”

There are obviously no hard and fast rules for pricing that cover the myriad of entrepreneurial ventures that can be undertaken. Doing your homework about the business sector in which you hope to make your mark is clearly critical if you are going to get your price points correct. It becomes a much more difficult matter if you are creating a market niche. You may have to experiment with pricing schemes and engage in creative partnerships with early adapters. Those first clients could help you get the pricing right and help market your products to other customers.

#10 – A ‘User Un-Friendly’ Product — Not sure there is any revelation here, but bad things happen when you ignore a user’s wants and needs whether done consciously or accidentally.”

What’s there to add? I’m reminded of the old joke about a man who invented a wristwatch that could tell the time, predict the weather, connect to Internet, record messages, project images, and a dozen other remarkable things. Unfortunately, the batteries for the watch had to be carried around in a large briefcase. “User friendly” are two words that every entrepreneur needs to remember.

#9 – Do not cut your losses a la Pivot at the right time — One of the most overused startup words of 2010 was Pivot, but [not] pivoting away from a bad product, a bad hire, a bad decision, etc. quickly enough was cited as a reason for failure often. Dwelling or being married to a bad idea is not a good way to allocate resources. It’s not just ideas – if you make a bad-hiring decision, take corrective action (euphemism for let them go) sooner than later. As soon as you see that your product is not getting a response in the market, think about what product changes might be necessary. Letting inertia and stubbornness limit your growth and ability to change your business model was cited as cause for failure almost 1/5 of the time.”

For more on the topic of killing bad ideas in a timely way, read my post entitled Killing Ideas as Part of the Innovation Process. In a previous post, I noted that when you let someone go you need to be honest with them about the reasons. I wrote: “Sparing feelings may seem compassionate, but in the dog-eat-dog business world a person needs to know when they are failing to live up to expected standards. If an employee isn’t doing a good job for you, he or she is likely to continue to perform poorly elsewhere. In the long run, employees are better off knowing their shortcomings even if their feelings get hurt.”

#8 – Lack Passion and Domain Expertise — There are many good ideas out there in the world, but our startup post-mortem founders found that a lack of passion for a domain and a lack of knowledge of a domain were key reasons for failure no matter how good an idea is.”

There are lots of reasons that people become entrepreneurs. Some people start businesses out of desperation — having lost their job, for example. Desperate people can do some dumb things, like starting a business in an area they know nothing about. Such people probably lack both the passion and the knowledge to succeed. If you’re not passionate about your idea, you’re not ready to become an entrepreneur. Even if you are passionate, be sensible. There are resources you can use that will help you know whether your idea has a chance of succeeding.

#7 – Release product at the wrong time — If you release your product too early, users may write it off as not good enough and getting them back may be difficult if their first impression of you was negative. And if you release your product too late, you may have missed your window of opportunity. … This was cited as cause for failure more than 20% of the time.”

I refer you back to my post entitled First to Market vs. Late to the Game. It contains some thoughts about product timing.

#6 – I got this product. Now I just need a business model. — Sure Twitter gets away with not having a business model, but they’re not the norm. Perhaps we’re old school, but if there is not a plan to bring in more revenue than expenses, that’s a problem. Failed founders seem to agree that a business model is important. Unfortunately, in 1 of 4 failure post-mortems, the lack of a business model was cited as a reason for failure.”

Business models are definitely not “old school.” Business models and business plans go hand-in-hand to create the credibility and the roadmap that a startup needs to succeed. It doesn’t surprise me at all that the lack of a business model is high on the list of reasons that companies fail.

#5 – Ran out of cash — Money and time are finite and need to be allocated judiciously. The question of how should you spend your money was a frequent conundrum and reason for failure cited by failed startups. The decision on whether to spend significantly upfront to get the product off the group or develop gradually over time is a tough act to balance.”

As I noted above, many if not most entrepreneurs underestimate the amount of capital they will need to get off the ground. Robert Dighero, co-founder of White Bear Yard, which provides office space for early stage technology ventures in central London, asserts, “My first rule of finance for start-ups is to raise money when you can, not when you need to.” [“Raise more, forget an office and do most of it yourself,” Financial Times, 31 October 2010]

#4 – Poor Marketing — Knowing your target audience and knowing how to get their attention and convert them to leads and ultimately customers is one of the most important skills of a successful business. Yet, in almost 30% of failures, ineffective marketing was a primary cause of failure. Oftentimes, the inability to market was a function of founders who liked to code or build product but who didn’t relish the idea of promoting the product.”

If you are geek or an inventor with great ideas but questionable people and sales skills, you need a partner who has those skills. That partner needs to feel invested in your company and needs to share the same passion you have to see it succeed. The two of you form the core of your team; which is the next topic on the hit list.

#3 – Not the right team — A diverse team with different skill sets was often cited as being critical to the success of a startup company. Failure post-mortems often lamented that ‘I wish we had a CTO from the start’, or wished that the startup had ‘a founder that loved the business aspect of things’. In some cases, the founding team wished they had more checks and balances.” … Team deficiencies were given as a reason for startup failure almost 1/3 of the time.”

In past posts I’ve noted that in his book The Art of Innovation, Tom Kelley wrote, ‘The myth of the lone genius can actually hamper [an organization’s] efforts in innovation and creativity. … Loners are so caught up in their idea that they are reluctant to let it go, much less allow it to be experimented with and improved upon.” He goes on to note that Thomas Edison, who is often pointed to as a lone genius, had a team of fourteen people that helped him conceive, build, and market his inventions. Teams are important.

#2 – Building a solution looking for a problem, i.e., not targeting a ‘market need’ — Choosing to tackle problems that are interesting to solve rather than those that serve a market need was often cited as a reason for failure. Sure, you can build an app and see if it will stick, but knowing there is a market need upfront is a good thing. ‘Companies should tackle market problems not technical problems.'”

People who set out to solve technical problems rather than market problems are not business people. During reality television shows like BBC’s “Dragons’ Den,” venture capitalists judging the ideas they are presented repeatedly tell the inventors, “There’s no market for your idea.” As a result, the inventors walk away with empty pockets. Another drum roll, please! The top reason given for why start-ups fail is:

#1 – Being inflexible and not actively seeking or using customer feedback — Ignoring your users is a tried and true way to fail. Yes that sounds obvious but this was the #1 reason given for failure amongst the 32 startup failure post-mortems we analyzed. Tunnel vision and not gathering user feedback are fatal flaws for most startups.”

That’s a pretty good list of reasons that start-ups can fail. It’s not exhaustive, however, and the data set from which it was drawn was limited; nevertheless, most of the bases were covered. The DSL Service Provider article concludes:

“There’s a well known rule of thumb that for all businesses trying to make it, 50% of them will fail. Whether you are building a company from your hard earned savings or borrowing from investors, the risk is great that your business may not succeed. Do you have a product that fits in your niche market or is it too similar to many of the other businesses already succeeding? Before trying your hand as a business owner, take a good look at the failures of those businesses listed above and start your internet business the right way – by learning the lessons of others.”

The economy needs entrepreneurs — but it needs entrepreneurs that succeed. Getting started right gives you the best shot at success.

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