Is having access to too much upfront capital bad for entrepreneurs?
The First company, Jaster, was more than adequately funded and the second company, Anyo, was not. Imagine you’re the founder of Jaster and you come up with a great idea that you think you can turn into a viable business. So, like most entrepreneurs, you put together a loose business plan that roughly describes the business model and from there you start doing some preliminary market research. After talking to a handful of customers you decide that there is a real need in the market for what you’re doing so you decide to build a prototype. Now, the advantage you have in starting your company is you don’t have to raise any money to get started because you’re able to completely self-fund. From there, you take what information you have about your potential customers and you invest a ton of money into developing a product that you think they want. You hire a support staff and you build out a nice office. And then, you run into your first obstacle — customers aren’t buying your product because it needs additional features. Okay, no problem. Since you have more than sufficient capital resources you quickly retool and “fix the glitch.” Thinking you’ve solved the problem, you decide to hire more people to service the new stream of potential customers that you think are going to come beating down your door because you now have a newer and prettier product. In your haste to upgrade your product offerings you neglected to figure out your pricing strategy and now you don’t know how much your customers should be paying for your product. Are you in line or out of line with market prices? — you have no idea. So now, it only makes sense that you hire a director of sales and marketing who can figure this problem out for you. However, what you forgot to think about it was whether or not your sales and marketing director understands how to sell a product like yours. Now, years have passed and your seemingly unlimited supply of money is starting to dry up. What do you do now?
Let’s take a look at Anyo. As the founder of Anyo, starting your company was a big risk because even though you feel confident in your technology, you’re not sure if the market will want it and you’re not sure if you can raise enough capital to get any traction. So you decide that the best thing for you to do is spend the next several weeks gathering market research and using the feedback to refine your technology. You also decide that it makes sense to get a mentor who can guide you through the product and customer development phase of your company. You figure that having a second opinion might help to broaden your perspective on things. After spending months researching and gathering data you decide to go out and raise a little bit of capital. The capital you raise is just enough to build the first several prototypes of your product that you can test with a small set of potential customers. After several months of testing, you gather a substantial amount of customer-use data that provides you with enough information to help you to build your first market-ready product. Having a finished product is great, but you know that since you only have a small amount of money left in the bank you decide it makes more sense to release the product with a small group of customers instead of releasing it to the greater market. You soon discover that operationally there are a few missing pieces in the process that you hadn’t thought about — quality control, marketing, customer service, product maintenance and servicing, etc. Therefore, instead of hiring an entire team of FTEs to take care of all these things, you decide to outsource these responsibilities which saves you a lot of time and money. After about a year or so you’ve worked out all the kinks in your development process, sales process, quality control, production, and you’ve developed what you think is a repeatable and scalable business model. At this point you go out and raise your Series A round because you’re confident you can demonstrate to investors that you can scale the company and deliver real “value” to your target market. You go ahead and make a couple of strategic hires, but you’re also focused on keeping your burn rate low. In the end, even though you didn’t have tons of capital to start with, you end up with all of the necessary building blocks for what is turning out to be a very successful company.
Even though these company names are made up, the stories are not. The key difference between Jaster and Anyo was not only the amount of capital either of them had, but the approach each of them took to how they spent money to determine what their customers really wanted. In the case of Jaster, they seemed to shoot first and aim later. Whereas Anyo, aimed first, aimed again, and shot second. I think it’s important for early-stage companies to take a measured approach to how they spend money because if they’re not careful, companies can put themselves into very bad financial situations by rushing into things too quickly. This is not always black and white because sometimes companies get lucky. But luck only lasts so long before your next problem arises you’re forced to make hard decisions that might cause you to lose your momentum, which translates into lost customers and poor sales.
The moral of the story(ies) is/are having sufficient access to capital is both good and bad. It’s good because having capital at your disposal allows you to build your company without having to worry about the day-to-day capital needs in your organization. But it can also be bad because it can mask operational problems that go unnoticed because no one ever has to stop and think about what things may or may not be working efficiently. The good thing about knowing upfront that your capital resources are limited, is you are forced to regularly check to see how things are going in all areas of your company. Don’t get me wrong — having sufficient capital resources is certainly a good thing. But I also know that having the right mindset about how you spend money (whether you have a lot of it, or a little) is probably the most important thing an early-stage company needs to be mindful of, especially in the early years. Cheers –KM.