The Correlation of Experience, Cash & Odds of Success for Startup Founders
Why more money equals more problems for startups.
There’s no such thing as a successful startup founder who hasn’t failed. Failure is simply the most basic stepping stone for every startup to succeed. As an early founder, if you haven’t had some sort of fail in the past month, you should take a long hard look in the mirror and ask yourself whether you’re moving quickly enough. While the magnitude of these fails1 is certainly going to vary, what’s important is that it was uncomfortable and you learned something from it.
On the other end of the spectrum, if things seem to be going really well you should probably double check if you’re using the right metrics to measure your startup’s success.
Growth does not feel comfortable. And as an early startup, your goal is to grow as fast as possible. So by definition, if things are going really well, they’re also going to be pretty hectic. The faster you grow, the more fires you need to put out.
Therefore, the quicker you fail and learn, the quicker you’ll achieve success. In theory, with each failure, you’re getting closer and closer to PMF (even if only slightly). As you learn more and more, you start seeing similar patterns. Many of the same type of problems continue to come up, and while they never get easier, you develop a roadmap for how to approach them.
This is why many seasoned startup founders look back at their early days as being in survival mode. It’s because they were doing the wrong things, but learning about their customers in the process. In essence, the longer you’re in the game, the higher your odds at success are. But ONLY if you have a rapid pace of iteration, failure and learning. If you don’t iterate and learn quickly, the longer you’re in the game decreases your odds at success, because money starts to run out and the team loses motivation.
Interestingly enough, there’s an inverse correlation between how much capital a startup has access to and their rate of success. For the founders who are super excited to go out and raise capital before having any type of traction, you should think twice about whether raising funds is the right move for your current stage.
You grow from failure because it’s uncomfortable and because failing too many times could mean the end for your startup. However, money becomes a dangerous cushion. When you fail, but have $1m in the bank, it’s no longer as painful. If you have bad retention, but each month users and revenue are climbing, you might unconsciously choose to ignore the poor retention rate.
When you’re bootstrapping and have 3 months of runway left and your retention is bad, you pull your team together and address it immediately. This is because your ass is on the line.
So what happens when you have a highly experienced founder and a lot of capital?
When you have a lot of capital, you do things differently. The pain of failing to reduce retention, or failing to reach PMF, is no longer as bad. This is similar to what happened to Atrium, led by Justin Kan2 who formerly co-founded and sold Twitch for $1b. Atrium launched and raised a $10m series a right out of the gate. A little over a year later they raised another $65m.
In a recent video titled “I Messed Up and I’m Sorry”
Justin Kan explains what went wrong:
”We hired a ton of people. We hired way too fast cause I just wanted to go get customers and figure out product afterwards. That was mistake number one. True tech startups are about product. They’re about finding a differentiated solution by using tech to build something fundamentally new. And that’s something that I think I lost sight of ”
They had grown from 0 to over 100 employees in a year without spending much time at all thinking about product.
”At Twitch, Emmett very clearly early on said we’re going to serve the streamers, because viewers will go to where ever the streamers are even if the site sucks because they want the content. That was the right move, and I didn’t do that at Atrium. And therefore, we never had this north star of what customer we were serving.”
They were operating at a loss, weren’t set on what customer they were serving and there wasn’t a clear line of sight to get profitable. This would’ve been a huge emergency for a small startup that had 2-months left of cash in the bank. But when you have 100 employees and $50m in the bank, you do things differently.
”We didn’t figure out who we were building for and we didn’t set the culture right. We didn’t differentiate enough on product. The result was a very leaky bucket. Customers would come in, the product was not differentiated enough, so they’d churn out.”
As a bootstrapping startup, you don’t hire 100 employees, or even 20 employees, simply because you can’t afford to. The more employees you have, the lower productivity-per-employee you end up having and the easier it is to drift from the original vision for the company. You need managers keeping track of what other employees are doing, then you need an HR department, decisions need to be put to votes, and keeping everyone on the same page becomes more difficult.
Let’s contrast Atrium with Twitch, since it has the same talented co-founder (Justin Kan) and instead of being overcapitalized, was turned down by almost every investor they pitched and was barely getting by in 2010. In this talk given at Yale University by Michael Siebel, one of the other co-founders of Twitch, he shared this story:
”We had a company meeting where we were fully transparent with everyone. I remember saying ‘Are we going to die? Are we going to reduce our burn to $100k/month so we have 5-months of runway? Are we going to break-even or are we going to become profitable? Everyone answered get profitable. On one side of the board, we wrote down everything we were going to do to cut costs and on the other side we wrote down everything we were going to do to generate more revenue. Within 2 months, we were breaking even and by the end of the year we had generated $1.2m in profits.”
It turns out that having a lot of capital can be detrimental even in the case of having an experienced founder.3 Justin Kan is one example, but there are many others. Julie L. Wainwright from Pets.com, Louis Borders of Webvan, and Doug Evans of Juicero to name a few. The list goes on and on.
Never underestimate the power of 4 broke co-founders in a small apartment working 16 hours a day, 7 days a week towards a common goal. Decisions can be made quickly, you can release crappy products (and fix them quickly), and you have a limited amount of time to build a great product and get traction before you run out of capital.4 That is the superpower of a startup, and the largest advantage they have over large tech companies.
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In this essay, the word fail does not mean you run out of money and your startup dies. It simply means you launched and got very few users. Or maybe you iterated on your product and got a few users, but have very low engagement and/or retention.
I have tremendous respect for Justin Kan and he is a personal inspiration for me. The purpose of using Atrium as an example is not to bash Justin’s level of competence as a founder, but merely to prove a point about why too much capital is dangerous, even when you have a highly experienced founder.
If Atrium had only raised the amount of capital that most first time founders would be able to raise ($500k-$2m and then a follow-on round of $5m-$10m), there’s a good chance they would’ve spent more time on product simply because they couldn’t afford to hire a bunch of people. Without hiring a bunch of people, they would’ve only been able to take on a set number of customers to start. This means that it would’ve been harder for them to fool themselves into thinking they were onto something. With access to limited resources, they would’ve been forced to do the two things that matter most: iterate on product and talk to users. Being a small and nimble team, they would’ve been able to iterate quickly and even make a pivot in those first 12 months. This is all theoretical, but it’s simply to make a point that having access to limited resources typically forces founders to face hard truths head on quickly and causes them to stay focused on the things that matter most for an early startup.
This post is mainly directed at startups that fall in similar categories as Twitch and Atrium. It is not very relevant for hardware, biotech or other capital intensive startups. Although, I would argue it’s still possible to be overcapitalized in those categories as well.