Why Are Startups Not Profitable? 4 Problems and Facts

You launched your startup a few months ago. It’s going well, you’re hitting your targets, and you’re excited about the future. But you’re still not turning a profit and it could be years before you do.

In such situations, you’re almost guaranteed to hear something along the lines of, “Most new businesses aren’t profitable in their first few years” or even “most startups lose money to begin with”.

It’s something that all business owners have come to accept and something that’s even understood by people who have never launched or run a business.

But if a business is doing well and hitting its targets, why wouldn’t it be profitable? What could possibly be happening behind the scenes to make this a common and widely accepted fact?

Problem 1: The Definition of Profitability

What is the definition of profitability?

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Is it simply making more money than you’re spending, and if so, what happens when you factor taxes, investors, bonuses, and CEO wages into the equation? More importantly, what happens when you invest all of that money back into the business?

Let’s look at things from an incredibly simplified perspective.

You have a business that spends $10,000 on stock and basic wages and generates a return of $20,000. On the face of it, that’s a $10,000 profit. But your business is new, it’s small, and you need it to grow. You’ll probably want to reinvest that money back into the business, and whether you invest in stock, staff, or premises, it’s still a business cost and it will still go down as an expense.

As a result, your business has just lost its profit.

The same is true for CEOs and investors who take money out of the business. If you’re the founder and the CEO and you give yourself a wage of $10,000, that’s $10,000 more than your business has spent.

In the early stages, it’s difficult to reach true profitability because the business needs to grow, investors need to be paid, and there isn’t a lot of money to play with.

Once your business generates $1 million and spends just $250,000, it’s a different story. At that point, you can afford to reinvest, take out some cash, and still leave your business with a profit.

Problem 2: Startup Costs

When you launch a business, you incur expenses that you don’t incur at any other point.

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Not only do you have to deal with legal costs and trademarks, but you also have to think about packaging design, prototype/product testing, large initial stock orders, writers, designers, developers — it’s endless. You’re making all of these investments before your business earns a single cent, and that means that you’re beginning your startup heavily in the red.

Unless you are incredibly lucky or smart, you’ll struggle to recover all of those costs during the first year, and that’s why even seemingly successful startups are not profitable.

It’s also why I advocate for keeping things simple at the early stages. You don’t have a full grasp of what your customers want and how they react, and so it’s easy to make costly mistakes, such as buying large quantities of stock to keep the unit price down, only to discover that your customers hate it.

Problem 3: Pricing and Staff Issues

Startups make a lot of educated guesses, especially when they’re run by inexperienced business owners. That’s not a bad thing — we all have to start somewhere — but it can impact profitability.

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For instance, you might launch your company with a view to keeping the prices as low as possible. You have a unit price of $1.50 and so you decide on a sale price of $2, focusing on quantity. But then your customers complain about plastic packaging and cheap finishes, and so you’re forced to increase the price and go again.

Eventually, you discover that your fondness for coupons and deep discounts, along with your generous returns policy, means you’re losing money, and so you increase the quality of the product and double the retail price.

It takes a while to get the pricing nailed down, and in the early stages, you’re essentially working on trial and error.

The same applies to staff, as well. You will hire staff that are expensive to train, staff that aren’t suitable for the job, and staff that leave you because they’re not getting paid enough.

As your business grows, you will collect data and learn how to keep the margins high. In the early stages, you just don’t have access to that data.

Problem 4: No Lifetime Value

This isn’t a huge issue for most startups, but it can be.

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When your business is a few years old, you will have accumulated a catalog of loyal customers. All these customers regularly purchase your products/services, and because you’re not paying extra money to acquire them, every cent they spend is profit.

In the early stages of your business, you’re focusing on attracting as many new customers as you can and it will take time for them to turn into dedicated customers.

Word of mouth and loyalty are still incredibly important for the success of a business, which is why it’s important to provide dedicated customer support and focus on offering a quality product/service.

Summary: Make Sure You Have Capital Behind You

You can never have enough money when you’re running a business. Those early years will be expensive, and it will feel like you’re investing more time and money than you can afford, and that disaster is only one bad marketing campaign away.

It’s why you should never invest all of your savings in the initial launch, and why you should?always look for ?investors if you need a lot of money.

For more information on launching a startup and getting over that initial hump, take a look at this guide to?launching a business in 2021 .