Archives

Categories

Premature scaling – the best way to kill a company

For a while now the folks at the Startup Genome Project have been doing some excellent data driven work into what drives success and failure at startups, and earlier this year I wrote about their first report under the headline The ingredients for a successful startup.  Yesterday they followed that up with the release of a mini-report on premature scaling (download here).  According to their data 70% of startups scale prematurely in one of the what they see as the 5 core dimensions of a startup: Customer, Product, Team, Business and Financials, although most problems come when the team dimension is scaled too early.  As well as a new report, the Startup Genome Project also released a benchmarking tool designed to help companies avoid the mistakes of premature scaling. 

I have said many times that too much money can kill a company and that timing is everything for startups.  Both of these statements are related to the dangers of premature scaling, and hence I was immediately drawn to this report.  One of the most difficult tasks for entrepreneurs and investors is matching investment with the emergence of the market opportunity.  It is important to be the leader when the market starts to scale, but spending too much money before then is an exercise in misery and value destruction.  Note my careful use of language – a) leading when the market scales is important, not being first to market, and b) raising money ahead of a market opportunity can be ok so long as it isn’t spent, although it is rare to see a board deciding not to spend money that is in the bank.

The report makes good reading and will helps clarify the meaning and dangers of premature scaling.  It is full of useful quotes and charts.  My favourite quote is:

Quote about premature scaling by …
Michael A. Jackson, serial entrepreneur and investor

“Having been both an entrepreneur and investor I’ve seen many entrepreneurs (myself included) try to scale blindly. No one takes venture money to stay a small business and scaling successfully is what separates eventual industry leaders from long-forgotten startups in the deadpool. Far too often though entrepreneurs start scaling before they know what is going to work.

Premature scaling is putting the cart before the proverbial horse, and in the case of startups this can potentially relate to both engineering and operations. As an entrepreneur there’s always the temptation to grow the sales team at the first sign of revenue traction, but there is always the danger that this early traction is coming from the subset of the market that are early adopters and not the actual market itself. Additionally, too often I’ve seen startups ramp up sales before they’ve figured out the most efficient way to achieve profitability. A vicious cycle ensues wherein the more a company grows, the more it farther away from profitability it becomes. Teams need to be obsessed with the metrics that drive their businesses’ growth, constantly testing and challenging their assumptions.

For the engineering team, there’s the often obsessed about notion of having a robust platform that can handle millions of users before the startup even gets to 10’s of thousands on there. The team starts to worry about all the technical issues that they’ll have to deal with when success comes, but they lose track of what is actually going to make them succeed.

And I liked the cart below which illustrates the false comfort that can come from scaling user numbers for a consumer internet service before the business model and/or product are ready:

image

I also had a go with the benchmarking tool, which I think could be quite useful for a lot of companies, although less for the benchmark data (which was a little hard to draw insight from) but more as a tuition/reminder tool for companies interested in following the lean startup methodology.  I spent about 20mins putting in data for one of our recent investments and got some helpful pointers of things to think about both from a strategic and operational perspective.  I also think it could be useful for investors as a due diligence checklist.

Enhanced by Zemanta