Posted September 21st, 2011 by Nathan Furr with No Comments
My friends at Startup Genome just released a report on why startups fail. After analyzing surveys from 3,200 startups they concluded that of the majority of startups that failed, 70% fail because of premature scaling. Although, I did not run the analysis, based on the research I conducted for my recent book, Nail It then Scale It, I couldn’t agree more—most startups fail precisely because they try to scale too early. Oh yes, and by the way, premature scaling also kills innumerable new projects at existing businesses as well, so innovators everywhere, beware.
But what is premature scaling anyway? In the report released by Startup Genome, I define premature scaling as “spending money beyond the essentials on growing the business (e.g., hiring sales personnel, expensive marketing, perfecting the product, leasing offices, etc.) before nailing the product/market fit.” While it sounds simple enough, the message of Nail It then Scale It is that most startups are dying and they are dying because they are doing good things but doing them out of order. In other words, they are doing things that seem to make sense, like investing to build the product, hiring good people to help them sell it, developing marketing materials, and essentially doing all the kinds of things that big companies with lots of resources do when they are executing on a known opportunity. But most startups are chasing an idea: the founders, no matter how much they believe in their idea, are operating on a guess about an unknown opportunity with a potentially unknown solution. All these unknowns mean we need to manage the process of coming to market differently and number #1 on the list is to avoid spending money scaling the business before you have really nailed what customers want and how to reach them. As the report points out, it often takes 2-3 times longer than founders expect to really nail the product before scaling the business really becomes appropriate.
Although it may seem over simple to ask, the reason that premature scaling kills startups is primarily two-fold. First, premature scaling uses up your precious cash more quickly, which means you have less runway to discover that you were wrong and readjust. One of the smartest strategies for a startup is to save cash wherever you can because it gives you more chances to try and get the fit between your product and the market correct. Think of it like a baseball game: the old model of entrepreneurship was to throw all your money into taking one big swing whereas the new model is preserving your cash so you have as many swings as possible to try and hit a home run. My friend, and superinvestor at Floodgate, Ann Ko points out in her lecture at Stanford, in today’s business environment you never want to run out of chances to iterate. Second, premature scaling actually makes you less agile. Specifically, when you start hiring people and investing in your product, you become organizationally and mentally committed to your current approach—you’ve paid money and obligated yourself to a particular product or strategy and doing this makes it worlds harder to change. In economics this is known as the sunk cost trap and in psychology this is known as escalation of commitment—in both cases it can kill a startup quickly.
So why do entrepreneurs fall into the premature scaling trap? Because of what I call the Entrepreneur’s Paradox. Essentially, if entrepreneurs didn’t really believe in their ideas, they would never have the courage to risk their effort, reputation, and money by taking action. But precisely because entrepreneurs believe so deeply in their idea, they jump into action by investing in creating a business, building a product, and then spending the money to try and sell it. What they almost always overlook is one deadly fact: that their belief is only a guess at what customers want that needs to be quickly and iteratively tested in the market before doing all those other “good” things.
In future posts I’ll write about a startup that is part of my Lean Startup Research Project that avoided the premature scaling trap. The entrepreneurs at Burt, a fascinating company revolutionizing the advertising world with novel advertising analytics, almost fell into the premature scaling trap several times. They waited patiently until they had really nailed every aspect of their business and now are scaling successfully today. I look forward to sharing more about their story in the future.
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Tags Entrepreneur Innovation Scaling Startups
Written by Nathan Furr