The 5 Critical Mistakes of Startup Founders – Pitching Angels
Avoid these startup traps to ensure the best chance of success
Over the past ten years, I’ve mentored all kinds of startups. And I’ve seen inexperienced founders make the same mistakes over and over.
Founders tend to think most startups fail because they can’t raise enough money. But running out of money is a symptom of a deeper problem rather than the cause.
Here are the five common mistakes that founders need to avoid if they want to be successful.
1. Not Listening to Customers
This seems obvious, but if you want to make a successful business, you need to find out what customers really want.
A shocking number of founders think they have a great idea and immediately set about raising money to turn it into reality. Most do talk to customers to some extent, but focus on useless questions like “would you buy this” and “how much would you pay?”
Customer interviews need to go deep. Founders, especially if they’re not from the industry, need to learn everything:
- how customers currently solve the problem
- competing and complementary products they already use
- how they find new solutions
- how they evaluate new products
- their purchasing process
And, well, everything else.
Talking to customers isn’t a 1-time project. It needs to be continuous and ongoing. It needs to start prior to building an MVP, but the point of the MVP is to create deeper discussions of customer needs. Initial product release is not about generating revenues but gaining even deeper feedback.
At least until Series A, everything needs to be treated as an experiment to gain customer feedback. That means the CEO and CTO need to handle all the sales instead of outsourcing that critical feedback channel to a sales team.
That means the CTO and VP of Engineering have to handle installations to see how the customers use the product. It means the head of product is handling support calls herself. Because listening to the customers is everything and can’t be handed off to underlings.
2. Rosy Cost Projections
If it costs $1000 to find each new customer and they only generate $750, that’s not a very good business.
Similarly, if it costs 3x more to make sustainable plastic out of agricultural waste instead of oil and customers won’t pay the difference, the technology is a great idea but the business won’t get very far.
Startup revenue projections are always wildly optimistic (while claiming they’re incredibly conservative lol) while cost estimates are somewhere between heroic and delusional. You won’t ramp from $5M in revenue to $100M without hiring salespeople and spending big on marketing. If the most efficient companies struggle to get to 20% EBITDA, I guarantee your projections of 40% profits are missing a lot of the costs.
Costs actually accelerate as the company grows. You need managers, then managers for the managers, an HR team, office space, and lawyers. Early employees happy to work long hours for equity give way to employees who expect to be paid in cash. A buggy product, half-baked UI, and skeletal website need to be upgraded to reach the mainstream. Customer acquisition costs multiply when you get past early adopters. Will the economics make sense at scale? Often they don’t.
3. Overestimating Market Size
“The TAM for our software is $10 billion and we’re going to capture 5%.” How many times have I heard this? At least once a week. How many times does it actually work out? Maybe once a year.
After a great start getting to $2M in revenue, its not uncommon for growth to slow, and after 5 years, still be under $10M. What’s wrong?
In most cases, the founders overestimated the market size for their product. The SOM is not $1 billion, but perhaps $25M. Why the huge discrepancy?
They’ve done a top down analysis but failed to eliminate all the use cases where they can’t compete. Nor to consider how many users will continue doing what they’ve always done. And how quickly competitors will adjust.
Or they’ve done a bottoms up analysis. The first customer was willing to pay $100K, so they assume the next 1000 customers will pay the same amount. Often they won’t.
In most cases, the founders worked the problem backwards. The VCs told them they need a plan to reach $100M, so that’s what they pitch. They aggregate multiple markets and make heroic assumptions on penetration. They build a good story of how they’ll reach $100M in 5 years. And who knows, perhaps it might be true. What matters, they think, is getting funding now.
Oreo cookies sell $4 billion a year. If you’ve never built a company with $100M in revenues, that milestone seems like a trifle. But unless you have hundreds of millions to spend in a trillion dollar market, getting to $100M in revenues is a huge challenge. Only a tiny, tiny fraction (like under 0.1%) of startups ever get there.
Most startups reach a few million in sales and stall. That would still be a great business, except they’ve staffed up to reach $100M, and lose millions if they don’t get there.
Although they’ve built a successful product that customers need and love, at $20M in revenue, they go out of business.
Once the VCs realize the company is not a rocket ship, funding stops. And with no more funding, they quickly run out of money and the company is sold off in a fire sale. This is the fate of the vast majority of startups.
Before pitching to investors, validate the market. Do anything you can to estimate the size of the opportunity. If it’s not a $100M opportunity, that’s fine. Most aren’t. Instead of increasing your expected market penetration or adding yet more market segments, build a strong, profitable smaller business instead of a rocket ship destined to crash.
4. Raising Money Too Early or at Too High a Valuation
Founders think the sooner they can raise money from investors, the better off they’ll be. And the higher the valuation, the better for them.
But once you take money from venture investors, you’re committed to building a rocket ship to reach orbit within a few years.
If your business isn’t a rocket ship, if it’s a solid, profitable $20M business instead of an exponential $100M business, you’ve destroyed your chance at success by taking venture money.
Because once you become a venture-backed business, you need to show exponential growth to get that next round of funding. And you’ll need that next round because you’ve staffed up for exponential growth and you’re throwing big dollars at sales and marketing.
Similarly, if you raise a seed round at a $20M valuation, you’ll need to reach tough milestones to justify a $40M valuation for your Series A. Otherwise, you hit a wall raising the next round.
Most founders would be far better off bootstrapping for longer, building out the product, gaining customer traction, and truly understanding the market potential before raising money.
Then, if they do decide to raise venture investment, sandbag a bit. A lower valuation this this round will give founders more flexibility to reach the next set of milestones.
5. Not Considering the Long Term Plan
Most founders have a great idea for a new product. They convince themselves there’s a huge need, then go out to raise money.
There’s a reason investors ask about the competitive moat. Sure, there’s no competition now, but as soon as you get to $10M in revenue, there will be a dozen copycats. How will you protect your advantage?
What’s the go-to-market strategy? You may have a great new dog food, but unless you’re spending millions on Super Bowl ads, how will anyone find it? If you build it, how will you get them to come?
Most importantly, what’s the exit strategy? Even if you build a successful business, how do investors make money? Before you get too far into the plans, make sure there’s a viable exit for investors.
Put It All Together
Avoiding these common startup traps doesn’t guarantee success. But it will greatly increase the chances, and at least prevent you from wasting years on dead ends.
Before you rush headlong into building products and pitching investors, make sure you have a solid plan to avoid these common problems that trip up most founders.
SüprDüpr has invented teleportation. They’ve raised a billion dollars in venture funding but now employees are missing. The hacker, Ted Hara, has to find out what’s happening inside this secretive startup in my Silicon Valley mystery novel, To Kill a Unicorn.
