The Problem With the Funding is Not Lacking of it But Overfunding
| 4 minutes read
Startups had been successfully influencing investors around the world. Billionaires also take active participation when it comes to investing in a startup. But not every startup nor every financier is destined to score big with them. The craze, you may call it, of raising capital has slowly become the factor in measuring success. And in this noise, a lot of investors and startups forget that the real taste of success is not in raising capital but in performance — driving sales costing profitability.
Although every unsuccessful story and the reason for failure are unique to each startup, the list of reasons for failures seems to condense to a few reasons and others repeating the same mistake that their precursors have done. Looking at a few stories should give insight into why some promising startups failed even after being financially backed.
Overfunding can lead to ultimate failure, as we have seen in many cases. According to K Ganesh, serial entrepreneur and Partner at Growthstory.in and Chairman of Portea Medical. “If you take the global situation, Webvan is a good example, which burned a lot of money focusing on things that ultimately did not matter to the consumer and did not affect the business model.”
Global failures that notched millions
1. Theronas Industry: Blood testing technology
- Amount raised: $910 million
The company is registered as one of the biggest cases of funded startup failure. The company went from riches to rags in no time. Considered the breakthrough technology in biomonitoring systems, the company had designed a small device that was supposed to facilitate the small-sample collection, testing, and rapid communication of diagnostic information. The company also had a proprietary miniLab that integrated infrastructure that allowed testing, decision making, and individualized therapy in almost real-time, empowering laboratories to process detection and intervention.
- Reason for failure
Product failure: While there were more funds than just product failure for Thernos, the product itself wasn’t up to the mark to what it stated. It was discovered that only a small fraction of Theranos’s blood testing had been completed on its ‘Edison machines’ and that most tests had been processed through competitors’ equipment.
2. PepperTap Industry: Hyperlocal delivery
- Amount raised: $51.2 million
It was 2014-15 when the market saw a spree of hyperlocal startups which came in to help the consumer get their daily requirement at their home at a discounted price. But the speed at which these startups came in, their demise was also instantaneous. The story was no different for PepperTap, which came with a mission to “revolutionize grocery shopping” as an Indian grocery delivery service with minimal cost. While the app correctly connected the local stores to consumers, the discounting policy became the Gurugram-based company’s poison.
- Reason for failure
Discount pivoted model – Faulty technology: For PepperTap, the pace of going upward was very similar to its coming down rate. According to the founders’ blog, the app deliberately failed to seamlessly integrate the partner stores as it bought “too many stores online too quickly.” The whole model was also built around discounting, which was unable to grab customer loyalty instead, leading to a lot of cash burn.
There are some essential lessons to learn from these startup entrepreneurs, and we hope that they don’t repeat the mistakes, or it would be challenging for them to win the trust of the customers, investors, and society at large.
How is funding hypothetical to work?
Before startups get funding, expenses are usually less. Ideally, some revenue is produced, and the bottom line is about breakeven, with slight losses or slight profits.
If a startup grows organically, founders take money from revenue to invest in expenses, increase revenue, generate more money for more expenses, grow the revenue further, and so forth. This usually takes some time.
With external funding, a company can grow faster. The reason is that instead of money generated from revenue, investors’ money is used to invest in expenses. Unlike with organic growth, the money available is usually more, so revenue is hypothetical to increase more and faster too. A company can grow to an immense size within years, and not decades, as it might take longer than expected with organic growth.
So far, so good.
So how to prevent being caught in this over funding trap?
1. Validation, validation, validation!
Raising money for development means you have tested your business model, and you have validated your product and services, your market, and your growth strategy! It means you have already found out which marketing or sales strategy is effective for your organization! It means you know how you will do your marketing, through which channels, how much will it cost – and you know how much revenue it will generate – based on your validation results.
2. Raise the correct amount at the correct valuation
To be able to do that, you must look further – to the point where your funding will be utilized. What is the revenue you need/plan to achieve once funding is used up? Subsequently: What valuation will you be able to demand with that revenue next round? Make sure there is a good upside to your current valuation to prevent down rounds. In this way, you will receive more funding next round by giving out less equity.
3. Monthly Cash Flow Planning
Most founders are naturally more driven towards visionary ideas and execution. This what makes them great entrepreneurs. So it’s ok if planning time is limited, but no matter how limited, make sure you have worked out one single file: Your monthly cash flow plan! It will help you see the big picture and enable you to spot potential ‘death traps’ where money kills startups from far ahead and allows you more time to find solutions to such problems.
It is not always true; money makes you richer. Sometimes overfunding leads to disaster if you don’t know how to utilize cash. To deal with overfunding or underfunding, you have to be consistent in your plan and policies; whatever the challenges you face, you should develop an ability to tackle. Ups and downs are the part of every startup; therefore, you should stick to your plan, goal, and make the most use of the money you receive.