The Hardest Part of Tech Startups: What Sets Them Apart from Other Startups
As an investor in so-called ldquo;tech startupsrdquo; or ldquo;scalable startupsrdquo; and ldquo;Silicon Valley type companies,rdquo; it becomes clear that these ventures are distinctly different from ldquo;lifestyle companiesrdquo; or ldquo;mom and pop shops.rdquo;
Defining the Groups
The first distinction to note is the size of the groups. The total number of new establishments started each year in the U.S. is approximately 650,000, according to the Bureau of Labor Statistics. However, only a small fraction of these are truly ldquo;scalablerdquo; startups that attract venture capital or angel investments.
The Size Comparison
Based on data from Crunchbase, in the last four reported quarters, there were a total of 3,167 early stage venture capital (VC) investments in the U.S. Similarly, the Center for Venture Research at the University of New Hampshire reported 64,380 angel investments in 2016, with 41 being first-round deals. This means that angel and VC combined result in approximately 30,000 new establishments per year, or roughly 4% of the total starting ventures.
Lifestyle vs. Scalable Businesses
So, we find the following:
New lifestyle businesses per year: 620,000 New scalable businesses per year: 30,000Success Rates
The success rates between the two groups are starkly different. The U.S. Bureau of Labor Statistics reports that approximately 54% of businesses remain in operation five years later. However, only about 3% of scalable businesses achieve this milestone, as they often fail to return money to investors. This highlights the different metrics by which success is measured:
Lifestyle businesses succeed if they continue providing a business-owner lifestyle for their founders. Scalable startups succeed if they return money to investors.Reasons for Failure
An analysis of 200 founders and their postmortems on why their scalable startups failed revealed some profound insights. The leading reasons were:
Customers were indifferent: 112 Market conditions: 35 Founders stopped caring: 26 Failed to get investment: 25 Technology didn’t work out: 24 Team fought: 23 Other issues: 24The most significant cause of failure among scalable startups is customer indifference. The majority of founders start with ideas that donrsquo;t align with market realities, leading customers to show no interest. Over time, the founders themselves may lose interest as well.
Comparison with Lifestyle Companies
The biggest difference between lifestyle companies and scalable companies is that lifestyle companies operate in well-established business areas, while scalable companies introduce innovative products that are unfamiliar to customers. For example, lifestyle companies might offer groceries, dry cleaning, website development, or dog grooming, things that people already understand. Conversely, scalable companies aim for innovation, introducing products that customers havenrsquo;t yet encountered or donrsquo;t know how to evaluate.
Conclusion
In conclusion, scalable companies are significantly more challenging to succeed in compared to lifestyle companies due to higher success metrics and the difficulty of overcoming customer indifference. The innovation often fails because people struggle to address the problem of indifference to new products.