The No. 1 predictor of startup failure: Premature scaling
In the wake of Solyndra’s revelation of an impending bankruptcy filing, the latest report from The Startup Genome Project makes for a timely read.
The report, published this week, crunches data from a set of more than 3,200 companies, seeking to identify the qualities that make startups most likely to either succeed or fail.
Researchers found that certain factors – such age and gender of founders, location, and previous entrepreneurial experience – have little bearing on a startup’s likelihood of failure. The most consistent predictor of failure, rather, was a startup’s propensity to engage in premature scaling.
What is premature scaling? The authors define it as “focusing on one dimension of the business and advancing it out of sync with the rest of the operation.”
For example, a startup may overspend too early on customer acquisition, hire too many employees, or focus too much on engineering at the expense of customer development. It can also raise too much money too early, a problem that one of the researchers’ interviewees, venture investor Michael A. Jackson of Mangrove Capital Partners frames in automotive terms: “Getting venture money can be like putting a rocket engine on the back of a car,” he said. “Scaling comes down to making sure the machine is ready to handle the speed before hitting the accelerator.”
The report estimates that 70 percent of companies studied exhibited some form of premature scaling. They also estimate that 74 percent of high growth Internet startups fail due to premature scaling. A common mistake, they note, is confusing a few early adopters with a market.
Researchers at the Startup Genome project, an eight-month-old effort supported by a collection of startup industry insiders and academics, also churned out some other interesting findings related to startup success. Insights include:
Pivoters do better: Switching a core facet of one’s business model, or pivoting, is sometimes the only way a startup can stay competitive in a fast-changing market. However, is there such a thing as over-pivoting? Or under-pivoting?
Probably. Researchers found startups that pivot once or twice raise 2.5 times more money, have 3.6 times better user growth, and are 52 percent less likely to scale prematurely than startups that pivot more than two times or not at all.
Co-founders scale faster: Researchers found solo founders take 3.6 times longer to reach scale stage compared to a founding team of 2, and they are 2.3 times less likely to pivot.
Business and technical partners outperform: Teams with one business and one technical founder raise 30 percent more money, have 2.9 times more user growth, and are 19 percent less likely to scale prematurely than technical or business-heavy founding teams.
Founders are ridiculously over-optimistic: Researchers found that startups need two to three times longer to validate their maker than most founders expect. Startups that haven’t raised money, meanwhile, tend to over-estimate their prospective market size as 100 times bigger than it actually is.
Interestingly, while premature scaling is quite common, its opposite, which the authors call dysfunctional scaling, is quite rare. A possible example they point to is Friendster, which many believe lost its early lead in the social networking space to do a failure to adapt its site quickly enough to accommodate a massive influx of new users.
Curious to see if you’re committing any of these startup sins? The Startup Genome Project has a tool for companies to test whether they are scaling prematurely.