Category Archives: Seedfunding

Story of Start-ups

The word Entrepreneur sounds so cool, an entrepreneur with a hot technology and venture-capital funding becomes a billionaire in his 20s. But it’s not fun to hear that even venture-backed start-ups have a 90% chance of failure. But start-up failure isn’t just reality; it’s also a necessity and a benefit. Here our references are made keeping America’s entrepreneurial environment in mind.

Firstly, the number of companies getting started far exceeds the potential market. Each year, 500,000 new businesses are started in the United States.  If each one were to become a $100 million success, that would mean adding $50 Trillion in ultimate revenues.  Clearly, those numbers don’t add up and mathematically, most companies have to fail.

Secondly, market failure, while painful, plays an important role in the economy.  We’re not smart enough to allocate people and resources; the failures of all those start-ups let us reallocate their people to the companies that are succeeding.  If start-ups never failed, every other type of company would run out of good people!

Thirdly, failure is a sign that you’re and have been trying.  To most folks who assume that winning all the deals you go after is the best possible result. A high win rate indicates that you’re not in enough deals.  Your people aren’t trying hard enough to get you in the door.

However, lets focus in our initial topic, there is enough evidence that venture-backed start-ups fail at far higher numbers than the rate the industry usually cites. About three-quarters of venture-backed firms in the U.S. don’t return investors’ capital, according to recent research by Shikhar Ghosh, senior lecturer at Harvard Business School.

Compare that with the figures that venture capitalists toss around. The common rule of thumb is that of 10 start-ups, only three or four fail completely. Another three or four return the original investment, and one or two produce substantial returns. The National Venture Capital Association estimates that 25% to 30% of venture-backed businesses fail.

Mr. Ghosh chalks up the discrepancy in part to a dearth of in-depth research into failures. His findings are based on data from more than 2,000 companies that received venture funding, generally at least $1 million, from 2004 through 2010. He also combed the portfolios of VC firms and talked to people at start-ups, he says. The results were similar when he examined data for companies funded from 2000 to 2010, he says.

Venture capitalists bury their dead very quietly says Mr. Ghosh, they emphasize the successes but they never talk about the failures ever.

There are also different definitions of failure. If it means liquidating all assets, with investors losing all their money, an estimated 30% to 40% of high potential start-ups fail. If failure is defined as failing to see the projected return on investment, say a specific revenue growth rate or date to break even on cash flow then more than 95% of start-ups fail.

Failure often is harder on entrepreneurs who lose money that they’ve borrowed on credit cards or from friends and relatives than it is on those who raised venture capital. Venture capitalists make high-risk investments and expect some of them to fail, and entrepreneurs who raise venture capital often draw salaries.

Overall, non venture-backed companies fail more often than venture-backed companies in the first four years of existence, typically because they don’t have the capital to keep going if the business model doesn’t work, Harvard’s Mr. Ghosh says. Venture-backed companies tend to fail following their fourth years after investors stop injecting more capital, he says.

Of all companies, about 60% of start-ups survive to age three and roughly 35% survive to age 10, according to separate studies by the U.S. Bureau of Labor Statistics and the Ewing Marion Kauffman Foundation, a non-profit that promotes U.S. entrepreneurship. Both studies counted only incorporated companies with employees. And companies that didn’t survive might have closed their doors for reasons other than failure, for example, getting acquired or the founders moving on to new projects.

Positive is, whatever it is even “nutty” ideas are a sign that entrepreneurs are collectively trying new things all the time.

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