Startups, Think Like a Business Owner pt.2

What lasts longer and makes more money; a business or a startup?  A business.  Even the successful startups eventually become a business so its a no-brainer that entrepreneurs with visions of startups dancing in their head should treat their venture as a business from the get-go. An earlier Lensatic post made that point clear and now here is another reason courtesy of John Mullins at HBR: thinking less like a start-up means you are thinking like a business and not like an entity beholden to VC funding, terms and advice.

In fact, venture capital financing may even be detrimental to your startup’s health. As venture capital investor Fred Wilson of Union Square Ventures puts it, “The fact is that the amount of money startups raise in their seed and Series A rounds is inversely correlated with success. Yes, I mean that. Less money raised leads to more success. That is the data I stare at all the time.”

Businesses that succeed do so by focusing on creating or finding customers and then satisfying those customers.

Pandering to VCs is a distraction. Trying to get a fledgling venture off the ground is a full time job, and then some. But so is raising capital, which demands a lot of time and energy on its own. It will distract the entrepreneur from doing the more important work of getting the venture onto a productive path. As Connect Ventures founder Bill Earner argues, “Finding the right customers and getting them to fund your business [constitute] a great step-by-step guide to raising venture capital — build the business first and the investments will follow.”

Why spend your time trying to convince investors to invest, when you could spend the same time convincing prospective customers to buy — or perhaps learning why they won’t — before you burn somebody else’s money! Besides, as customer-funded entrepreneur and investor Erick Muellerrecalls, “It’s a lot more fun dealing with customer needs than pandering to investors.”

This, in the long run, actually makes the business more desirable to the investment and VC community while allowing you to stay in charge.

The stake you keep is small — and tends to get smaller. When you raise angel or venture capital early, as Jobs did to fund Apple, you start giving away a portion the company — often a substantial portion — in exchange for the capital you are given. And that portion grows over time, as additional rounds of capital are raised. Dell, on the other hand, used his customers’ pre-payments for their PCs to fund his startup and its early growth. Claus Moseholm and his partners, who managed to go the distance at GoViral without ever raising outside investment, retained their stakes in the business (bar one co-founder, who sold his stake to a growth capital investor) until they eventually sold. 

But the best news is this. If you raise money at a somewhat later stage of your entrepreneurial journey, you’ll find that many of the drawbacks have largely disappeared. Why? Because with customer traction in hand, you’ll be in the driver’s seat, and the queue of investors outside your door will have to compete for your deal.

A startup is an unproven business model and automatically a risky venture.  However, a new business overcomes this because it has to; otherwise, it fails.  Because of the inherent risks of a start-up, investors will do whatever they can to mitigate risks, hence the contracts entrepreneurs tend to hate.

Term sheets and shareholders’ agreements can burden you. Investors don’t like risk any better than you do. If you’re raising money before traction is in hand, so-called “market risk” is higher than if demand has already been proven. To protect their downside, investors will require what are often seen by entrepreneurs as onerous terms. And when the concise prose of the term sheet is fleshed out into the fine print of the shareholders’ agreement, the terms get even worse.  

Startups make their appeal to VC funders because they believe that to take that big leap into delivering for their customers and creating a successful business requires tons of money.  There is truth to that. But many entrepreneurs are seeking the money moreso because they just want to get the finish line faster. Thinking about your start-up like a business doesn't erase the need for funding (at some point) but it does make you implement the fundamentals first. Which will serve the start-up well on its path to success.