The First Signs Your Startup Is Headed For a Sudden Shutdown

Let’s talk about saving your company from certain disaster.

You know how startups can one day just suddenly implode, leaving a well-meaning but ultimately hollow note on their website thanking everyone for the incredible journey? It hurts every time I see that. Because you can prevent it. Not all the time. But you can see it coming. All the time.

A lot of startups fail for a lot of different reasons. In fact, the first few years of any startup are just about survival. The most painful and scary failure is the one that no one sees coming and leaves everyone shocked. These are the failures I want to talk about, because it’s not that no one sees them coming, it’s usually that no one was paying attention to the warning signs.

Inspect the charred remains of those startups. Rewind back a few weeks or months and listen to the stories, go through the books, read the internal communications. In almost every case, you can trace the total collapse directly back to certain cracks in the foundation, like forensics.

We’re going to do just that.

Stage Five: Total Disaster

A recent textbook example of a Stage 5 meltdown is Munchery, the meal-kit delivery startup out of San Francisco that raised $125 million, grew exponentially for several years, and then ceased operations one overnight in January 2019.

The endgame has all the classic signs that while the ship was sinking, everyone was reshuffling the deck chairs. The highest profile sign was that Munchery kept ordering from its vendors, leaving some of those small businesses with unpaid cost-of-goods-sold in the thousands of dollars, some $3 million in total.

I don’t want to pile on, nor do I want to speculate whether this was blind-eyes or active cover-up (but, I mean, come on). This is just an example of what we’re trying to prevent. Stage 5 is way too late. Game over.

Stage 4: Churn

Churn is probably the last sign we get while we still have time to take action. There are two types of churn that start with a trickle and quickly become a firehose: Customer and Employee.

Customer churn can be expected, but high customer churn is like taking two steps back for every step forward. It’s almost impossible to recover from high customer churn without making big and painful changes to the business, usually in the form of a pivot or a pullback.

But there are preventative measures we can take to keep customer churn low. The first is building feedback loops into everything we do, whether it’s ratings or surveys or a Net Promoter Score (NPS) or, my personal favorite, tracking usage volume and patterns over time and using data analysis to determine where customer problems are going to bubble up.

The second preventative measure is to keep growth organic. I get scared when I see that any one customer or group of customers is making up too large a share of my revenue. I’ve been burned too many times by focusing on one customer or group, and when I say group it might be a partnership or a region or even a demographic, then something external changes and all that revenue goes away.

Employee churn is easier to recover from, to a point. In startup, employee churn is a fact of life, because everything changes so fast and so often that the company and the employees can grow in different directions overnight. Sometimes the company outgrows the employee’s skill set. Sometimes the employee realizes the company is no longer what they signed up for. It happens. We deal with it.

One of the things I’m proudest of in my career is a period at my last startup where we went for about three years growing our headcount from about 10 to over 50 and not losing a single employee. This wasn’t luck, this was proactive management of culture.

We all know bad things happen when you get to about 50 employees, so when we lost one employee, NBD. When we lost one more, we thought we kind of had it coming just because odds. Then, during a period when I was on the road for about a month, we lost a few more. Something had changed. I started addressing it immediately, and we were able to turn it around, but not before losing several more.

The fix was cultural, but the cause wasn’t. Like high customer churn, high employee churn is a sign of something deeper.

Stage 3: Profitability

Let’s go back in time a little further, when we start to see the first signs of doom show up in profits. In fact, if we go back even further in time, to just before Stage 3, we’re talking about the salad days, when growth was explosive and employees were thrilled and customers were singing our praises.

Now, at Stage 3, things have leveled off.

For a whole host of reasons, some known, some unknown, some just out of our hands, profitability is slipping. We’re making less margin on each sale, spending more to get it, probably leaking costs here and there, maybe having to do things over, making careless mistakes.

All of these are symptoms of growth, right? Sure. Our Head of Ops likes to say, only slightly tongue-in-cheek, “We can be profitable, or we can grow.” But there are the profitability losses we plan for and those we don’t. It’s all in how we fix it.

One wrong fix is growth at all costs. We’ll cut costs that aren’t sales-essential, which kills quality, usually at the expense of the employee, the product, and the customer.

The other wrong fix is profitability at all costs, which works great in the short term, but eventually kills both innovation and competitiveness. That impacts, you guessed it, the employee, the product, and the customer.

Either way, hello Stage 4.

Stage 2: Sales and Sales Growth

The good news about this stage is we’re talking about very early indicators. We have time to act and the fixes usually aren’t that painful. The bad news about this stage is — if there are hundreds of reasons why profitability can slip, there are thousands of reasons why sales can slip.

There’s a part of me that is convinced that there is no good, repeatable, teachable sales strategy at the early stage of startup. Some of it is luck, a lot of it is skill, and some of it is just dark arts that I don’t understand. I’m a huge pattern and correlation guy, and when I look at early-stage sales numbers, I find it extremely difficult to call out dials to turn. A lot of it, too much of it, is trial and error. This is why A/B testing is so prevalent today.

But I’m admitting all this to hammer the point that once we figure out the formula and then sales start slipping, that’s a bad sign. Because even when we have the sales process nailed, there are a lot of external factors. Furthermore, as any sales manager will attest, there are ten-thousand more excuses that might have zero to do with those reasons.

So we have to wade through all the factors and excuses and reasons and dials and A/B tests to get to the one truth.

Stage 1: Our Customers

Customer ratings are the leading indicator of the health of our startup.

Our customers will always tell us which direction we’re headed in, which direction we should head in, and even how fast we should be growing. We just have to ask.

Remember back in Stage 4 when I talked about feedback loops? You probably already knew that and maybe mentally threw me some shade or a least a “duh.” No, that’s cool. I wanted that. Anyone selling a product should know we need feedback, and product people know that feedback loops are one of the best ways to get it. A smart product company likely already has these feedback loops in place.

Here’s where it becomes a problem: We not only need to take the feedback, we need to use the feedback. Correctly. And that’s easier said than done.

Again, I’m probably not the first one to tell you that if you’re scoring feedback on a scale of 1 to 5, anything less than 5 is not good. If we get an A, we need to understand why we didn’t get an A+. Now, we’re not reinventing our product if the average score falls to 4 stars, but the battle for survival starts at four stars out of five, not one star.

We may not ever win back a one, two, or three-star customer, we may not even want to spend the time trying to win them back (that’s a Stage 3 play). What we can and should do is make sure whatever caused that outcome doesn’t happen again.

Those four-star customers though, those are five-stars waiting to happen. In the balance between growth (sales) and margins (profitability), the priority put on their customer feedback and the time spent sourcing their issues serves both sides of the battle. And that keeps us from the edge of the first slippery slope.