Key Startup Success Factors

2.1 Common Perceptions

My previous article identified the most common criteria on which investors rely when evaluating and deciding to invest in a startup. However, this in itself does not uncover any glaring oversights that may help explain why success rates are so low, aside from the fact that some deep pocket investors may choose to employ a strategy that bets on tracks rather than on individual companies. As the investment industry includes some of the best and brightest minds aged with years of industry experience, one would expect that given the sheer size of the many startup investments that success rates among investment firms would continue to trend up as lessons are shared and learned. This however, does not appear to be the case as the following data is similar to that of prior years. According to Harvard Business School research, 70 to 80 percent of all startups fail to deliver a return on investment to investors and a whopping 90 to 95 percent fall short of meeting projections. Many experts also agree that between 50 to 90 percent of all startups are forced to close their doors within the first few years. It is disappointing to find that the broad majority of investors seem more eager to give reasons as to why it is so difficult to select a startup rather than to focus on the key success factors that may in fact prove effective to increase the odds of success. Given that the combined annual angel and early stage startup investments equate to roughly $60 billion usd in 2015, a mere 2 percentage point increase in success rates would have realized over $1 billion usd in invested savings.

Bill Gross, the widely acclaimed investor, spoke at length on this topic in June 2015 expounding on a study he conducted based on his own research and experience seeking to identify the most important factor that contributes to startup success. He initially identified five potentially key factors 1) the idea – how new is it and how protectable is it?, 2) the team and the execution – how efficient, effective, and adaptable is the team?, 3) the business model – is there a clear path to revenues?, 4) the funding – can the company out-raise others?, 5) the timing – is the idea too early or late for the market? He analyzed 250 companies, some of which turned into high flying billion dollar unicorns and others that everyone thought would become unicorns but for whatever the reasons failed. The results of the study indicated that “funding” was least important as a key success factor since a company can succeed even if no money is raised. Similarly, the “business model” ranked low since it is also possible for a business initially lacking a model to succeed as the oft-cited examples of Facebook and Twitter have indicated. He and others have pointed out that a business model can in fact be developed after the product to market fit is found and rapid growth demonstrated, although many would argue that this is not a preferred path. The “idea” was found as only the third most important criterion since it is ultimately going to change according to market feedback and response. The “team and execution” landed in second place as it was recognized that a good, complementary team is crucial to assessing the market, adapting the product or service, and building and executing upon the strategy. “Timing” was the surprising winner even to him, being deemed the most important criterion to startup success. Bill rationalized that if the market is not ready for the idea, the business is just not going to materialize as one would expect. On the other hand, if timing proves to be just right, even a mediocre product or service may prove successful. (Peter Diamandis, 2015)

As one may imagine, there are many different views and ongoing debates regarding what the most important startup success factors are, which all makes for very interesting and lively discussions. Chad Kaul, who is a founder and advisor to over 40 startup teams, has concluded that although startups succeed for different reasons, they all fail due to the same reason, which he identifies as the startup foundation. He believes that there are six cornerstones to a startup foundation, 1) the vision, 2) the team, 3) the product, 4) the market, 5) the business, and 6) the culture, all of which he holds the founder directly accountable for correctly aligning and configuring. He states that a startup requires conscious and deliberate efforts by the founder to design, develop, and manage the foundation otherwise it will ultimately fail to create the virtuous cycle and cumulative advantage required to grow and sustain itself. Simply being aware of the startup foundation and understanding its problems is only half the solution. The other half consists of actually building it. He suggests that perhaps Google+ would have worked out better if the team had chosen to play on LinkedIn's turf as a business social platform as it is much more transactional like “search”, which of course is synonymous to Google. Maybe Google+ would have become Slack, even before Slack. (Kaul, 2015)

Still others point out that listening to the needs of one’s customers and learning to project future needs is most important instead of trying to be the next big thing. (Admin, 2015) Some startup founders may be too proud of their own technical knowledge and expertise that they ignore or fail to see the actual needs of their customers. Not every startup can be as disruptive as Google or Amazon or Facebook. Either they should have something revolutionary or they should validate their ideas in the market before proceeding to the next stage. (Myers, 2015)

I personally believe that the following diagram is emblematic of the real issue facing startups, in that to achieve success requires all of the key factors to be satisfied. The calculation of the success probability is analogous to calculating the rolled throughput in a factory where the acceptable parts pass probabilities for each process step are multiplied together. For example, if we were to take the five factors initially highlighted by Bill Gross, and assign 0.5 probabilities to each one just as an example, then the probability that the startup will be successful is only 3 percent since there must be success in each of the five areas, not just one. Thus, I would argue that it is less important to identify the most significant factor and more important to identify the full set of factors that must be satisfied to enable success, which I define not strictly in terms of revenues but also include net positive cash flow and sustainable growth. The goal of the next sections is to highlight and detail each of the key startup success factors for comparing them against the investor selection criteria and identifying any disconnects.

2.2 The Leader

It is well accepted that startup success hinges upon the abilities, experiences, and personalities of the leader but what may not be so obvious is that it is only through the latter can the abilities and experiences be catalyzed and subsequently focused to bring about tangible startup success. As highlighted in the previous section, all three of these leader categories must be satisfied to enable success, however in practice it is the specific set of personality characteristics of the leader that are oftentimes overlooked in favor of more obvious and impressive abilities and experiences. Based on extensive research, it is interesting to find that the reasons frequently highlighted to help explain the reasons why startups fail are all related in some way to the leader’s personality characteristics, and some of which were not identified as key investor selection criteria in the previous section.

There is a fine line between confidence and arrogance, which is made even more difficult by the fact that confidence is an essential ingredient to drive the entrepreneur forward to found the new company and develop new products or services. However, if one is not cognizant of the inherent difficulties in starting a new business, this confidence can quickly morph into over-confidence and arrogance, which is often typified by a strong, biased view of one’s own ideas causing the entrepreneur to ignore market and customer reactions, mistime the product or service introduction, forgo the building of a business model, and not make effective use of an available network or group of advisors. A leader who portrays him or herself as having all the answers is one to avoid as it is a red flag indicative of the problems that lie ahead as no one is right all of the time, not even Bill, Steve, Sergey, and Larry. Self-confidence is good, but over-confidence is usually behind the most spectacular of failures. (Eric Jackson, 2011) This can also lead to what is commonly referred to as the “Midas-touch syndrome”, where an entrepreneur branches out into an area outside of their expertise and experience having a genuine belief that whatever they touch turns to gold. Even the legendary Jim Clark, of Netscape fame suffered from “Midas touch syndrome” when he decided to launch MyCFO, which was a financial services firm with a website, despite having no real sector expertise or experience. In addition, one of the most important advantages of a startup over an established firm is its freedom and flexibility to pivot when the situation calls. Unfortunately, arrogant leaders can fall into the trap of becoming too self-righteous, instead choosing to proceed with a course of action even after there are tell-tale signs that show that it will be unworkable. A few other startup leaders have told me on occasion that they were developing an amazing new product that by itself would attract customers to them. It is this type of engineering hubris that demonstrates a clear lack of understanding as to the importance of sales and marketing, which can lead to quick failure due to poor planning, weak marketing, stronger than expected competition, and low traction. (Geoffrey James, 2015) Arrogance can also lead to serious team discord especially during times when everything appears to be going wrong. It only takes one prima-donna to sink the ship as a successful business is not built by a single person but by the total team leveraging upon specialized and complementary skillsets, unique experiences and talents, and different, creative ways of thinking. 

Another key personality trait that enables startup success relates to the conscious effort by the leader to consider diverging opinions, hire individuals having different backgrounds and viewpoints, and encourage debates to drive to a best decision. Too often, people like people who remind them of themselves, which can result in a very one-sided team that makes decisions without engaging in a more comprehensive and unbiased analysis of the true situation. One example taken from my own professional experience relates to the time when I moved to China as part of Caterpillar’s joint venture with a Chinese wheel loader partner back in 2005. I can remember the proud Caterpillar leaders coming to China for the first time, cascading strategies and making high level presentations laced with powerful proclamations of dominating the Chinese wheel loader market by 2015. Many of these leaders were from the US Midwest, having gone to many of the same schools and educated in much the same way. This type of “clubby” atmosphere is commonly referred to as groupthink, where the whole group or team tends to have the same views, which can lead to the formation of very one-sided strategies and decisions. Groupthink is often exacerbated by pronounced arrogance among the team, which may be cultivated by a false sense of confidence among team members that their developed strategies and decisions are correct. The best management teams are the ones that can actively debate issues holding the mindset “may the best logic carry the day.” Therefore, a successful leader is one who is open-minded, not afraid to build a diverse team that may engage in healthy debates, play devil’s advocate, and even at times disagree with the leader. This of course is all more easily said than done as the ego often proves to be a powerful and formidable combatant.

Ideally, the leader should be mature and experienced, one who understands the importance of maintaining a deep focus on the target market, listening very carefully and interpreting customer feedback, and following up by taking real action as deemed necessary. They should also be able to recognize when mistakes are made and ensure to take sufficient time to analyze why they occurred and to identify and implement ways to prevent them from occurring in the future. Eric Jackson, VP at VoiceGenie, says that ideal founders are ones who have failed once for every two times they have succeeded and in his experience, individuals who have had two good failures in the first one-third of their careers tend to succeed the most in the last two-thirds. (Eric Jackson, 2011) Failures enable leaders to remain humble in times of success helping them to avoid the pitfalls that lead to over-confidence and arrogance. Experienced leaders are also those who are able to discern which strategies and solutions should be pursued, to set the right company vision, and build a well-balanced team. Google actually learned a hard lesson with its expensive Google+ initiative gone wrong. It proved that despite having a highly intelligent and creative team, when the vision and strategy are incorrect, the endeavor will ultimately fail. In this case, they wanted to compete with Facebook, however did not clearly understand why it needed to exist, and furthermore they chose to play on Facebook’s turf, where they lacked experience and expertise. (Steve Tobak, 2014) 

Inexperienced leaders can also fall into the trap of being too shortsighted, unable to develop and execute a longer term plan that can lead to the startup running out of cash and unable to acquire additional financing or attract investor interest. It is important that leaders are prudent spenders able to maintain sufficient cash reserves to cover times when unforeseen expenses are incurred. Successful leaders are those who spend money on important things, not on lavish furniture, expensive office space, exorbitant personal salaries, or an excessive number of new hires. They understand the essential techniques of bootstrapping, which in itself is a situation where the entrepreneur founds and builds a new company from personal finances or from the operating revenues of the new company. Techniques can include taking advantage of trade credits with suppliers, factoring where one sells accounts receivables to third parties, leveraging letter of credits with suppliers, leasing expensive equipment instead of outright purchasing, and keeping a sharp eye on operating expenses as well as unhealthy fluctuations in cash levels. Leaders who lack experience and maturity are, more often than not, those who define success in terms of acquired funding, where misplaced, and time-consuming efforts are spent chasing after investors rather than customers. In some cases, important cartridges may also be blown by approaching potential investors much too early. Instead, a more prudent investment in time would be to focus time and efforts to gain a deep understanding of the product or service positioning, develop and validate the product or service with their intended target users, develop, leverage, and grow a strong partners’ network, and build a strong business model that has a clear and realistic path to monetization. A successful startup should be measured based on its sustainability, profitability, and level of customer satisfaction, not merely on how much funding was acquired.

Other key personality traits of the leader or co-leader is his/her ability to focus on details and are inherent “worry-warts”, ones who are in constant worry regarding the many different ways things can go wrong. They pay close attention to comments and even more subtle messages communicated by customers, partners, and other third parties, and are meticulous on details related to product development, strategy, execution, and service. A startup may consider itself fortunate to have a highly prized, intelligent “big picture” leader at the helm, but unless there is a detail-oriented co-leader in place to balance the efforts and drive day-to-day activities, there exists a much greater probability of a poorly executed product, service, and/or strategy. Sloppiness can come in many forms, and can lead to such serious oversights as those having legal ramifications that later prove to be insurmountable. CB Insights, a respected market research firm, conducted a post-mortem study on 135 failed startups in which they asked the people intimately involved in each startup why they thought it had failed. 85 percent of the respondents cited arrogance (#1) while 34 percent cited sloppiness, which was the #5 reason out of 20. A slipshod job can also be tied to leader arrogance in some cases if he/she believes that the more detailed work tasks are beneath the call of duty and thus chooses not to get involved. Successful leaders must make absolutely certain that nothing important falls through the cracks and in nearly all cases this requires personal involvement in details. It is wise for a leader to consider the phrase “genius is an infinite capacity for taking pains.” (Geoffrey James, 2015)

A last trait to mention of a successful leader has to do with work / life balance. A lack of balance can create abnormal stress leading to bad decisions, work quality, and even relationships. Many startups work in a bootstrapped mode characterized by a small team working around the clock on a number of varied tasks not particularly aligned to specific roles and responsibilities. This crunch mode operational environment can lead startups to fail due to a loss of focus, lack of passion, and burnout. The founder of Blurtt, which is a photo sharing app startup that closed in 2014, “I started to feel burned out. I was Blurtt’s fearless leader, but the problem with burnout is that you become hopeless and you lose every aspect of your creativity.” (Cromwell Schubarth, 2014) I also have personally felt this at times leading teams especially where the challenges were great, the pressure high, and all eyes on myself to deliver upon the expected goals. Although being at the top of the chain of command can be fulfilling in many ways, it can also be at the same, a tiring and lonely job. I have found however, that those who incorporate some form of exercise into their daily routine actually perform better, as they are able to use this time as a relief valve of sorts, reinvigorating themselves and relieving some of the pressures brought on by the sheer number and variety of complex challenges faced each day.

2.3 The Team

As highlighted in the previous section, one of the biggest challenges for the startup is to blend the right combinations of skills, experiences, and personalities when forming the team as it is this foundation that ultimately breeds success or crumbles in failure. When startups fail, one of the often cited reasons is that the founders, if there is more than one, just cannot get along, bickering and quarreling until a tipping point is reached where mounting frustrations boil over and end in resignations or even shutting the startup down. Another reason lies in the shaky commitment of team members who do not possess deep passion and belief in the mission, vision, and goals that are required to persevere and overcome the severe challenges that will inevitably come. Startups, despite common perceptions to the contrary, are not glamorous nor for the faint of heart as it requires individuals who are willing to work tirelessly sometimes day and night, not willing to easily give up, work well with others, and sufficiently flexible and patient when forced to accept major directional shifts in strategy. In addition, the collective team must have a strong and unrelenting focus on customers, avoiding the trap of ignoring them and relying excessively on self-knowledge, assumptions, and unrealistic optimism.

Team chemistry also plays a critical role in the day-to-day effectiveness and efficiency of the team as it directly affects the quality and speed at which business decisions can be made. Although it is valuable to have an opinionated and variegated team, each team member must be able to listen well, be considerate and open, and remain as objective as possible when deciding on next courses of action ensuring that the team and company is always placed ahead of oneself. When things are going well, team spirits are good, people are positive and in congratulatory mode, and seemingly work well with each other. However, when difficulties happen to arise as they invariably do, people begin pointing fingers as Maslow’s lowest-order on the hierarchy of needs takes over, which is self-preservation. A startup having dual leaders can exacerbate the situation as can having an excessive number of venture capital board members. The more leaders with voting power comprising the management team, the greater the chance of a falling-out as control over power and money as well as divergent tactical and strategic views can lead to ugly disagreements. As for venture capitalists, it is generally known that 90 percent do not actually hold or add substantive value. Eric Jackson, the former VP at VoiceGenie, who himself pitched to over 300 venture capitalists resulting in a $10 million usd Series B investment by Insight Venture Partners in 2003, concluded the following regarding venture capitalists, 1) most serve on too many boards to provide any meaningful value, 2) many do not really understand the way that technology is changing in any one sector as they do not have sufficient time to research and develop expertise, 3) the best advice comes from the general partners who are much more experienced than venture capitalists however lack the time to commit to individual startups, and 4) for the vast majority of venture capitalists, they really do not wish to devote significant time to help run the business as they are more focused on identifying that next high-flyer in which to potentially invest. (Eric Jackson, 2011)

2.4 Product to Market Fit

In a survey of entrepreneurs, 20 percent noted that their startup failed most likely due to a poor product to market fit. The term product to market fit is defined as the strength or degree to which a product or service satisfies a strong market demand, i.e. no matter how capable your team or how amazing your product is, if there is no market, the business will fail. (Admin, 2015) One of the more egregious mistakes that a startup can make is not talking to a sufficient number of potential users and platform partners before diving in and committing oneself to the new business. In this case, a lack of understanding of the target market will preclude the team from being able to focus the product or service on the real problem and needs of its potential users, oftentimes resulting in an amalgamation of scattered ideas rather than the development of a single, laser-focused solution to an important problem that users genuinely care about. Product or service development should also include target users who are involved in the process to better ensure that the product or service does not veer off course and remains focused on satisfying important user needs. Consumers and businesses primarily purchase complete products that they can actually use, and although contrary to popular belief, they tend not to purchase fascinating ideas and novel inventions that merely pique interests or elicit feelings of general curiosity. (Steve Tobak, 2014) Another important factor that determines the success of a new product or service lies in how well or poorly the product or service is executed, which is why having detailed individuals playing active roles on the team is so vital to the overall success of the startup.

2.5 Strategy / Business Plan

There are a variety of factors pertaining to business strategy and planning that are often cited when analyzing the reasons why a startup failed. These include not involving target users in the product development process, focusing on revenues instead of profits, incurring a much too high cash burn rate characterized by spending vast sums of money on non-essentials, not gaining a sufficiently deep understanding of the competition or failing to realize who the real competitors are, devising a poorly thought out or unrealistic marketing plan, selecting a poor initial location or time to introduce the new product or service, setting the price excessively high or low, failing to develop a comprehensive plan to scale the business to the next growth phase, failing to pivot, or pivoting when the more prudent decision would have been to have stayed the course. As highlighted previously, what makes startup success so inherently elusive is that it only takes one crack in the foundation to propagate a rapid demise. Thus, it really is the leader who plays the most pivotal role in determining the startup success as he/she is directly responsible for the development of critical strategies, plans, models, and key decisions that will ultimately decide the fate of the startup. 

The decision of the leader to place priority on profits, revenues, or user acquisition has been a subject of much debate and controversy especially in recent years of economic boom leading to bountiful venture capital. When cash runs plenty, it is easier for entrepreneurs to justify a business strategy that spends, sometimes excessively, on acquiring and re-acquiring users giving the impression of high future growth potential that yields inflated company valuations. In such a seemingly strong economic environment, it has been common for venture capitalists to focus almost exclusively on revenue generation to take advantage of high sales multiples that enable them to quickly flip the investment and realize attractive returns in a short amount of time. This is the perspective from a short-term investor who is looking to capitalize quickly, and who has no real motive or intention to focus on the long-term viability of the actual business. Quite similarly, the startup leader can also get caught up in this investment scheme where the securing of large investments becomes the main objective rather than the building of a fundamentally strong business that can endure over the longer term. Interestingly enough, YouTube, MySpace, and Google are supposedly all examples of companies that followed a revenue-first strategy and (at least Google) are now harvesting because they focused on revenues first, profits (ads) later. However, this simply is not true as Google always focused on profits first. Eric Jackson, former VP of VoiceGenie recalls listening to Joel Stern from Columbia Business School, who remarked that equity is a soft pillow and debt is a razor, and management seems to always pay attention to the razor. Employing more of a debt versus equity mindset leads to a stronger focus on profitability, which he firmly believes is an appropriate discipline for any management team. He therefore advises startups to focus on profits first, as revenues will take care of themselves. (Eric Jackson, 2011) Having said that, it should be recognized that there have been highly successful startups like Facebook and Twitter who were both able to acquire millions of users without any profit, but proved in future years to be highly successful and profitable. Although many startups may be convinced that user acquisition or revenue first models are justifiable and applicable to their business, the grim reality is that the majority of startups that are unable to generate profits will almost always end up failing. George Meszaros, editor and founder of Success Harbor, suggests that building a profitable business requires smarter entrepreneurs compared to those who merely increase the number of users with additional funding. He concludes by saying that when one builds a profitable startup, i.e. develops and implements a strong business model, one invariably builds a better business. (Meszaros, George, 2015)

Prudent spending and adhering to a well-constructed budget plan is an important business related success factor requiring strict discipline and maturity by the startup leader and management team. Startups need to dedicate time to prepare and effect a proper budget plan that lays out and details which employee positions to fill and when, what are the required capital investments, how much funds should be allocated for an effective marketing and promotion campaign, when is the optimum time to rent office space, and so forth. Although cash is not the most important factor when it comes to starting a business, when funds dry up, the only real recourse is to seek and secure additional funds or be forced to shut down. (Linamagi, 2015) The best advice I have personally come across was being told to disregard whatever funds have been raised or are available for use, and run the business as if it were still in the early stages when every dollar spent was accounted for and measured in terms of actual value provided.

Another key strategic success factor is the extent to which the startup team understands who their actual competitors are, what their competitive strengths and weaknesses are, and what barriers have already been erected to dissuade and prevent entrants from pursuing the same market. Peter Thiel actually recommends avoiding competition altogether by identifying and starting a new business in an area that nobody has yet ventured. Although that advice may not be sound for a market such as China or an emerging market that is unprepared to accept such a new and novel idea, the ability to seize upon a first mover advantage is a point well taken. In addition, startups should avoid underestimating the strength of the fight put forth by existing competitors who are desperate to defend their turf. From disk drives and CMOS chip technology to pencils and paper, there are barriers to topple the status quo and sometimes, old-fashioned tried and true solutions combined with powerful marketing companies survive far longer than one may ever anticipate. (Steve Tobak, 2014) Another common pitfall that even highly successful companies have sometimes failed to avoid is what is referred to as an obsession with the wrong enemy. Microsoft thought that their enemy was IBM, Apple, and others, but not the Internet. Sun Microsystems thought it was HP, Dell, and IBM, but not Linux. Friendster thought it was dating sites, but not MySpace. Eric Jackson remarks that while leading a startup is a lot of hand-to-hand combat, the most successful leaders keep an open mind as to where their next challenger may come from. It is very difficult to stay vigilant against your future enemies, especially when one consistently hears how smart and successful one is. (Eric Jackson, 2011)

Although business plans and strategies will undoubtedly be revised and even uprooted, these are poor excuses to avoid developing them. Large gaps in the strategy that are not immediately dealt with and filled can lead to insurmountable challenges later on constituting real showstoppers. These can include what one may consider to be small details such as low-cost material sourcing, availability of components and infrastructure, simple logistics, or local politics. Although markets are extremely complex and difficult to predict, an adroit leader is one who is able to think ahead and contingency plan in the event that the market moves rapidly and/or in unexpected ways. As the great Wayne Gretsky once opined, “I skate to where the puck is going to be, not where it has been.” (Steve Tobak, 2014)

2.6 Secured Investment

When a startup no longer has cash at its disposal, it enters into the unenviable position of being forced to give undesirable concessions to suppliers and/or partners just to keep the company afloat until such time it has secured additional investments or has favorably tipped the scales to positive cash flow. For every founder that manages to bootstrap a startup, there are dozens, maybe hundreds of them that run out of cash for a plethora of reasons. (Steve Tobak, 2014) These include but are not limited to the leader’s unwillingness to part with large shares of equity for investment, underestimation of the time and efforts required to attract investment, improper budgeting, lavish spending on non-essential expenditures, an inordinately high cash-burn rate, and/or a poorly executed business plan or lack thereof. A secured investment enables the startup to survive during a period of time when profitability is low or non-existent, to gain traction in the form of important partners and an influential growing user base, and to hire talented team members who are able to execute upon the set strategies and goals while making significant contributions to shape the future growth trajectory and overall success of the startup. Although securing outside investments is not a mandatory requirement, it does provide the startup with additional time to survive, develop, grow, and compete until such time it becomes a sustainable, cash-flow positive, and more mature business.

2.7 Reasons Why Startups Fail | Summary Table

The following table was created to organize the findings relating to the reasons why startups fail and to assign max rating scores for each of the five main categories and sub-categories. These scores, although somewhat arbitrarily assigned, were based on collected qualitative research and interview information. Leader, Team, Product to Market Fit take up 25 percent each representing 75 percent of the total pie. Strategy takes up 21 percent while Secured Investment takes up the remaining 4 percent. Note that the total score indicates the likelihood of startup failure, i.e. a high score signifies that the startup has a high chance to fail.

Table 2.1 Reasons Why Startups Fail Evaluation Criteria

 Next article will look into the disconnects between early stage startup selection criteria and key startup success factors