Why Start-ups Fail: Top 5 Reasons from Fallen Founders
And How to Learn From Others’ Mistakes
My co-founder sent me this really interesting link to a collection of failed start-up stories.
If that isn’t a morbid way to start the day, I don’t know what is.
But in all seriousness, studying why others have failed might just be the best way to inevitably succeed at whatever it is you are doing.
Whether that is designing a space shuttle, an electric car, an app to dismantle the taxi system, or simply trying to conquer your math homework — studying where others have gone wrong is a great starting point.
It doesn’t guarantee success, and it won’t guarantee you don’t fail, but it does give you some great insights into potholes to avoid.
Those who do not study the past are doomed to repeat it. — George Santayana
Failure Stats
So here are some stats I collected from this list of failed start-ups. I have gathered them into 5 categories for failure: Product-Market Fit (PMF), Team, Money, Vision and Other. There are more notes on each of these categories below.
As you can see by the beautiful pie-chart on the left, overwhelmingly the reason for failure was Product-Market Fit. Now despite literally thousands of articles being written on PMF, the number of start-ups who get it wrong is striking. If you don’t know what Product-Market Fit is, start here. Then read this, this, this, this, this, this, this, this and this.
But if you don’t want to read all of those, I will boil it down for you here:
Product-Market Fit has three principal components. If you master all three, you’re golden.
Product-Market Fit
Market
You need to find a market — a group of people, money or businesses, in which you can target your inevitable product towards. These are the people who will buy whatever it is you are going to sell. For example, Uber’s market is people who own cars in any of the cities they are located in and want to make extra cash. Google’s market is anyone with an internet connection who wants to search for something. Here are three things to watch out for when choosing a market:
- Money: this is a combination of size and wealth — if you are Hermes or Estee Lauder, you don’t care so much about size because each person you are targeting has lots of wealth.
Simple equation: Money = Size * Wealth
- Market Share: is it a crowded marketplace, like productivity apps, or an uncrowded one, like designer poodle outfits? This plays into how much market share you will be able to grab. Although this often doesn’t apply to those who change the rules, like AirBnB and Uber, it does apply to most new products, like 3D Printers or denim jeans.
- Red Tape: this is basically an analysis of how much crap is going to get between you and the people you want to buy your stuff. If you develop a really amazing biomedical device that solves a huge problem, you still have significant restriction between you and your market. There are regulatory bodies on almost anything, so beware.
Product
You need to develop a product to serve a need — what this need is will depend very much on your product, but also on the market you wish to hit. If you product is a 3D Printer, you need to design it in a way that people who have a need for a 3D Printer will pick yours. You can either target businesses who want to develop prototypes faster and cheaper, or you can target the garage maker who just wants to be able to make something cool without all the added expense. Either way, you product has to reflect your market, and vice versa. Most importantly, however, your product has to fill a need. The best way to have a killer product is to fill a killer need. This need should be so big that you couldn’t imagine living life without the product once it has been introduced — like shoes, or running water, or a panini press. Here are 3 simple things to keep in mind when designing your product:
- Product Advantage: what makes your product better than every existing product in the space? Is your app just another way for people to consume cat videos, or does it do something that no other app does? Basically there are two types of product advantages: market advantage and technology advantage. If you have a market advantage, you are simply re-purposing existing tech in order to do something familiar in a new space. AirBnB doesn’t really have a tech advantage (at least they didn’t when they started) but they have a huge market advantage. In the space of renting out rooms for extra cash, no one does it better. If you have a technology advantage, you do something no one else can because they don’t know how. Voltera, some friends of mine, have a technology advantage — they have patents on a particular strand of chemicals that can be 3D printed and conduct current, letting them 3D Print circuit boards. It’s fucking awesome. And no one else can do it.
- Product Cost: so how much is this thing going to run me? This can sort of be grouped into product advantage, but it often kills great products. At the end of the day, if you design the single most bad-ass gaming chair ever, and gaming is a huge market, and it has all the bells and whistles anyone would ever want, but it is $100,000 — no one. is going. to buy it. full stop. When you design a product, tailoring your costs to your product and to your market is critical. Making a chair for Bob and Susie for their front deck that is $2,000 before margins isn’t viable. Designing one for Franz and Giuseppe, billionaire philanthropists, probably is. Cost can kill companies, so be mindful of this one.
- Usability: so… how do I turn this thing on? If your product is so seamless to use that anyone can get it to go, that’s ideal. But for the rest of us, it is balancing the first two in a way that people can still manage to do what they need to do with your product. The iPad is a great example of this — my grandparents needed a way to check their email without all the fuss of a computer. Heaven forbid they get stuck, they just push literally the only button on the front of the device and it takes them back to the home screen where they can try again. Beautiful. Seamless. Easy. That’s usability.
Fit
So here’s the hard part: you need to design a product that satisfies the needs of a market, with a market that is big enough, and a need that is strong enough, that the money you make from the market initially is enough to justify your product, continued development in the area, and to move your concept to a point that you gain significant market share, turning you into a viable business. Easy right?
Here’s the list of stuff that can go wrong:
- Market size is too small, so you don’t get enough money in total to run the business
- Market wealth is too small, it doesn’t matter how many people you get, you can’t make a business
- Market share is too crowded, you can’t get enough people to switch to your product, so you can’t make a business
- Your product doesn’t have a competitive advantage that is enough for people to switch from existing solutions (market or tech)
- Your product doesn’t have a market advantage that is enough to get over the hurdle of people being weirded out by the first run (ex. AirBnB starting out)
- Your product doesn’t fill a need in a market
- Your product isn’t cool enough that people will buy it even if it doesn’t fill a market need
- Your product is way too expensive for your market
- Your product can’t scale to the point it is cheap enough to sell for a reasonable profit, meaning there is no sustainable business
- Many, many other things
So how do you get fit right?
The best advice I can give you I directly stole from Marc Andreesen, Paul Graham and Steve Blank, which is find a need worth trying to fix.
What does a need worth fixing look like?
It’s the kind of thing people just can’t stand. It’s an itch you can’t scratch, and one you would pay a significant amount of money to get rid of.
In the case of Uber, it’s having a reliable cost for your trip, using the same app in many different locations, and being able to get a cab whenever you need one and know exactly how long that will take. That’s a big itch they are scratching, and hence they are a Billion-dollar company.
Finding Product-Market Fit is one of the hardest things any start-up will do, so don’t take it lightly.
If you have to change your product according to market feedback, do that. If you have to change your market to fit your product, do that. If you have to completely change your concept to make something people want, do that.
As the stats show, 73% of Start-ups that were polled failed because of Product-Market Fit. Spend some time on it. It will save your company.
Team
So there are lots of reasons teams don’t work out:
- Co-founders can’t agree on product, direction, market, design, etc.
- Co-founders can’t agree on legal, team structure, dynamics, funding, etc.
- Team is inexperienced or doesn’t have the right stuff to make a viable product that fits market needs
- Not enough drive from the team towards the goal
- Many other reasons
I’m going to write briefly about the first 4.
Product, Direction, Market, Design
So to put it simply, your opinion on any of this does not matter. What matters is your customers’ opinion. What do your customers want? If you can’t give them that, then don’t bother. How do you find that? Lots of testing. Lots of market research. Lots of analysis and going out and trying to sell it to people. If you can do that, you have a chance.
Arguing about Product, Direction, Market and Design, is kind of like arguing with your spouse about what colour the dining room walls should be: no one except you is ever going to notice, care, or comment, because that’s just not something people worry about. Arguing about it is a waste of time and effort. Just. Don’t.
A good way to solve this is just to try it and collect data. If the data is better than before, go with it. If it isn’t, don’t. A/B Testing is the way of the future, and with the resources available, it is super easy.
Legal, Structure, Organizational Dynamics, Funding
So the first and only thing I will say about this is simple: get it in writing when you start.
My grandfather told me a great story of his business when I was a wee lad and how they had almost been bankrupted due to a police case and insurance regulations, but because he had everything in writing, he was able to keep the business going and gain his settlement.
Moral of the story? Get it in writing.
When you start at a start-up, you get a contract outlining terms and conditions to your employment. Why should it be any different when you found a start-up?
Get how the decision-making process, how the equity split, how the funding, how the paychecks, how the exit clauses, how the dilution, and how the company is going to grow, and most likely eventually sell, is all going to go down.
If you fail to do this, it will bite you in the ass later. I guarantee you this.
Really, it is a rough conversation for like 3 hours, and then you go on with your lives. If your co-founder and you can’t figure those things out, how do you expect to handle the difficulties of being entrepreneurs? It’s not all sunshine and rainbows.
Agree on it. Write it down. Sign your life away. Then go kick ass.
Team is Inexperienced
So I have two thoughts on this:
- Don’t start a start-up that you are totally under-qualified for. If an existing start-up wouldn’t at least consider you for the job, then you’re probably not qualified for it. Go work for a start-up or small business, get some experience, learn the lay of the land, and then go your own way. The best way to crush an industry is to have someone else pay you to learn its secrets from the inside. Co-op/Internships are great for this. Venture for Canada is great for this. Don’t try to build a house without the right tools. Don’t try to build a company without the right experience.
- You shouldn’t know how to do everything for your job on day 1. If you do, you’re in the wrong job. Think about it — if I’m an engineer, and can walk into a position and know how to do everything, where’s the challenge? Where’s the fun? Where’s the growth? Do you think I will last in that position? Unlikely. Same thing with starting your own business. You don’t need to know how to go from start-up to Uber, but you should understand how business works, what it takes to build a great product, what a great team looks like, how to scale, how to sell, how to market, and where your skill set lies in all of this. If you’ve got that, you can learn most of the rest on the fly.
So it’s about balancing those two contradictions. You don’t need to know everything to run a business — that’s half the fun — but you do need to know a little bit about a lot of things.
Basically, if you’re inexperienced, go get experience working for someone else, or make up for it. It’s up to you.
Not Enough Drive
So plain and simple: if you don’t innately love the thing you are working on, it will fail. Full stop. End of discussion.
If you don’t get up everyday and think about your product, business, customer and market before anything else, you’re probably not that keen on it, and it will fail.
Start-ups have one advantage over other companies: agility. They are fast, they are mobile, they are small, they can pivot, they can adapt, and they are ruthlessly motivated to succeed.
If you are not those things, you are not a start-up, and chances are (like 90%) you will fail.
So pick a problem you really want to solve, and then figure out how to do it.
Money
So I won’t tell you how to manage your finances — that is an entire series of books and likely a very expensive education — but straight-up, if you can’t keep that under control, you are a straight-shot downwards.
No company that couldn’t manage its finances ever succeeded. Ever.
If you can show me one example, I will take that last line down.
Basically, finances are simple:
- Don’t spend more than you have
- Make more revenue than your costs — that equals profit
- Keep some money in the bank for rough times
- Grow instead of shrinking
If you can do that, then finances are easy.
Unfortunately, doing that is really unbelievable hard.
So here are some simple tips to help.
Put Your Business on One Page
Learned this trick from a friend:
- Make a spreadsheet with revenue by month at the top
- Deduct all the variable costs you have — commissions, product costs, returns, taxes, marketing, etc.
- Deduct all the fixed costs you have — rent, salaries, web hosting, etc.
- Calculate profit by month — Revenue-Costs=Profit
- Input cash into the bottom, add profit per month (or lack thereof)
- If your cash goes less than zero, your business dies
- Figure out a way to make it work
If you can put your entire business on one page, it will give you a very good idea of how you screwed up in the past, how you are going to continue to screw up in the future, and where you need to correct things.
One page = simple to use, no fuss, no sweat — it’s not perfect, but it’s easy. That’s the point
Variable Costs are Good, Fixed Costs are Bad
I’ve heard this from a few different people, most of which are very successful, so here’s my take on it:
If you have the chance to make a fixed cost into a variable cost, do it.
For those of you who don’t know, a variable cost is a cost that is proportional to your sales, such as product cost, commission, or returns. The more you sell, the more the deduction is. It is usually a percentage of the revenue.
For example, if you sell $1MM in revenue and your sales commission is 5%, they make $50,000. Now, if you had to choose between 2% commission and a flat wage of $30,000 or 5% commission, which would you choose?
If you’re the business, you want commission, because no matter what, you are paying your sales person in accordance to how rich they make you. More sales = more profit = more money in the business = more money for you.
If you’re the sales person, starting out, if you can’t get sales that is really hard. But if you are successful and the company grows, you are making way more money than a flat fee.
So really, it’s win-win. A great company will let its sales people get rich. Why wouldn’t you? They’re making you rich.
Fixed costs are bad because if you company grows or shrinks, they are always there. So wherever possible, turn fixed costs into variable costs. Your bottom line will thank you.
Don’t Lie to Yourself
A balance sheet or financial projection is no good if you just doctor the numbers to tell you what you want. If the ship is sinking, you need to acknowledge that and either fix it or get off.
Don’t lie to yourself on your one-page because it does you no good. This isn’t something you show off or submit to anyone — this is for you. You and you alone need to run the business and know how the money shakes out, and if it isn’t good, what good does lying to yourself do?
Be honest. It’ll serve you well.
Vision
This is rare, but deserves some recognition.
The only company on the list that folded due to vision was Secret and that is because the app had started to be used for something it wasn’t intended for, and degraded into bullying and some other terrible things.
If you can’t set a good product vision from the start, you probably can’t do the other 3 things on this list either, so there’s not much to say about it.
Other
Basically, a start-up can fail for a multitude of reasons. You can’t prevent all of them, so focus on the big ones.
Learning from Others
My dad used to say:
You have to learn from others’ mistakes because you can’t possibly make them all yourself.
I love that. Mostly because it was my dad, but also because there is so much wisdom in there.
It is sometimes said that you are the culmination of the experiences you’ve had, the books you read, and the people you know.
Experiences are mistakes you’ve made.
People you know have the mistakes they’ve made.
Books have the mistakes other people have made.
If you do a lot of those three things, chances are you won’t make too many mistakes in the future.
The best way to learn is by making a mistake, but an even better way to learn is to let someone else make the mistake so you don’t have to.
Every company on this list wrote an article about why they failed. I encourage you to read as many as you can.
Learn from others’ mistakes, find Product-Market Fit, make a great Team, handle your money, and always, always be hustling.
Huge thank-you to the team at Autopsy.io where most of the research for this article came from!
Also a huge thank-you to Unsplash.com for being a nearly-endless supply of world-class and free photos. Canadian company no less, so show them some love!
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