November 7, 2013 | 5-minute read (900 words)
There are many things that entrepreneurs don’t know about startups—and an equal number of things that they think they know, but about which they are wrong!
Some common startup myths have frequently been debunked, like how running your own company will give you freedom (yeah, right!) or how failure leads to future success (it could, but it’s certainly no golden ticket), and how all an entrepreneur needs is passion (who needs the ability to execute when you have passion, right?!).
And then there are those startup insights that seem to linger and gain traction over the years. The “truths” that guide entrepreneurs. But it turns out that many of these insights are also just myths. And these are the ones that are truly harmful, in my opinion—particularly when it comes to your finances.
While entrepreneurs need to build off the successes and knowledge of those that have gone before them, there is a danger in accepting as gospel these unproven theories about startups.
Here are the startup myths that I think are most detrimental to the financial health of your startup:
1. You have to raise capital. There are obviously some great advantages to raising capital, not least of all the ability to accelerate your product/service to market and to execute on a greater scale. But there are also a lot of downsides to raising investment capital, top on the list: dilution. Bootstrapping yields higher profit margins and helps you to avoid (or at least hold off on) dilution. It also gives you greater control over your company and allows you to scale at your own pace.
2. More money = better when it comes to raising funds. This is, again, a problem of dilution. The more money you raise, the greater your dilution which can lead to lower valuation. Also, there’s no point in raising money that you have no specific plans for. I always advocate for a milestone funding approach to fundraising. Identify what milestones you want to hit with each raise, determine the costs associated with achieving that milestone (resource costs and operational expenses), and then seek out this amount, with a small cushion built in to account for the unexpected. If you can show capital efficiency, you’ll build investor trust which will lead to future rounds when you need them. Read my previous post on The 5 Most Common Financial Mistakes Startups Make, for more details.
3. Business planning is an anachronism that slows you down. This one just rubs me the wrong way. Even in the every-changing, cutting edge world of high-tech startups, planning is still essential. Your business plan is the foundation that will guide your company development and support its growth—and help you to accelerate. It’s one essential piece of the infrastructure that all startups need.
4. Product trumps all. This myth could also be called the “build it and they will come” myth. Just because you have a good idea does not mean that it will sell, and that your company will be profitable and succeed. It may seem like in a fair world, if you build something great that people should be banging down your door trying to buy it, but they won't. If you’re not selling, that doesn’t mean that there’s anything wrong with your offering (though there may be). Before you begin tinkering with your product, tinker with your sales and marketing and overall engagement and relationship building strategies. And, of course, you should be closely monitoring your cash burn to make sure that you don’t run out of cash before your product has had the time it needs to build an audience and start earning real revenue. Read my post on Reducing Your Startup Business Burn Rate for tips on reducing your cash burn.
Contact Early Growth Financial Services for help calculating, monitoring, and reducing your cash burn.
5. My financial forecast shows a huge market for my offering. This is a variation on the “build it and they will come” tune and the result of a top-down financial forecast. When you start with market size and extrapolate to calculate your total potential revenue, you’re likely to get money signs in your eyes! Using a top-down projection as your guide, it’s all to easy to be overly optimistic about the market potential of your offering. Top-down projections certainly serve their purpose (potential investors will definitely want to see this), but for your own purposes, a bottom-up financial projection gives you much more realistic expectations to work with. For more details, read my previous article Bottom-Up vs Top-Down Financial Projections: Realistic Financial Financial Planning.
Do you disagree? Or have another myth you’d like to debunk? Tell us about it in comments below or contact Early Growth Financial Services for a clear view of the financial health of your company.
David Ehrenberg is the founder and CEO of Early Growth Financial Services, an outsourced financial services firm that provides early-stage companies with accounting, finance, tax, valuation, and corporate governance services and support. He’s a financial expert and startup mentor, whose passion is helping businesses focus on what they do best. Follow David @EarlyGrowthFS.