According to an examination covering new businesses conducted by Statistic Brain, almost all small businesses and startups fail. Most startups’ failure rate is 10% in their first year, 50% after five years, and 70% after ten years.
While the failure rate for new businesses is generally high, it is still unbeatable for most startups with failure rates ranging up to 90% according to the Harvard Business School senior lecturer Shikhar Ghosh.
With various reasons why startups fail, many startup founders are still in denial and bound to false starts. Even though many startups fail miserably, it does not mean there is nothing that you can do to prevent it.
If you have a small business in mind that you want to start, knowing the possible risk averse as well as the top reasons startups fail is a great idea and an edge in avoiding failure.
Continue reading to learn more about startup businesses, reasons why startups fail, and how startup success can be achieved.
What is a Startup?
The term startup refers to a company in the first stages of operations. Startups are founded by one or more entrepreneurs who want to develop a product or service for which they believe there is demand.
These companies generally start with high costs and limited revenue, which is why they look for capital from a variety of sources such as investors and venture capital firms or capitalists. Venture capital funds may also come from family and friends, crowdfunding, or bank loans.
Starting a business comes with its fair share of advantages and disadvantages. On the bright side, a startup business can be more rewarding for the founding team and even for pioneering employees.
On the other side, startups are often at a higher risk as new businesses need to prove themselves and raise capital before they can start turning a profit.
To ensure a successful business venture, learning about the reasons startups fail is a great help for you to maximize your business strengths and minimize possible weaknesses.
12 Main Reasons For Startup Failures
Here are some of the top reasons according to various studies and examinations are done by prominent entities and experts in the field:
1. No Market Need
One of the main components of any successful startup is its ability to solve a certain problem. Providing a solution to a common problem that the market needs. However, most entrepreneurs focus on their craft and not on others’ problems that need solutions.
Most of the time the first product that a startup brings to market won’t meet the market need. In the best cases, it will take a few revisions to get the product or market fit right. In the worst cases, the product will be way off base.
In this case, it is a clear indication that the founding team did not carefully do their part in testing and validating their ideas with customers before and during the product development phase.
To prevent this from happening, it’s important to ensure a market for the product or service before investing time and money into developing it. This can be done by filing a value proposition canvas, doing in-depth market research, and finding the product market fit that solves a certain market problem.
2. Cash Flow Problems
One of the major reasons startups fail is money and the lack of it. Not having enough money to support the startup business often leads to startup failures. One of startup founders’ key points and roles is to fully understand how much money is getting in and out.
Cash flow will determine whether or not the company is capable of carrying out a milestone that leads to success or positive cash flow. One example of a startup business that failed miserably is Skully, a motorcycle helmet business with a funding capital of $15 million.
In 2016, the company had to lay off most of its staff and shut down operations primarily due to overspending and mismanagement of its funds. To protect your startup from failing due to cash flow problems, make sure to follow the following:
- Reduce Expenses: Many startups often take this part wrongly by cutting the expense allocated for inventory, marketing, and labor costs. Instead, consider cutting nonessential costs, auditing overhead expenses, and getting better rates on rent and utilities.
- Increase Sales: Increasing sales and getting more money for your business is an easy way to boost cash flow. Finding a selling technique that matches your product’s branding and target audience is a way for you to successfully increase sales.
- Widen Modes of Payment: While other businesses limit their customers’ payment options, being flexible and adapting to new trends such as credit cards and online payments that seek hassle-free and convenient choices for customers is a sure way to attract potential customers and increase customer retention.
- Incorporating a Monthly Business Budget: If your business is seasonal or cash flow tends to follow a cycle, an annual or monthly budget and accurate cash flow statement can shed light on just how much money you will need each month to pay recurring bills.
3. Flawed Business Plan
A successful startup often starts with a great idea. Unfortunately, it may only take one ill-timed move to cause the startup to fail such as a flawed business plan.
A flawed business plan does not take into consideration the key points that significantly affect the success and failure of your business. A business plan can either lead to your startup’s failure or startup success.
Some common business plan flaws include being too vague, miscalculating costs, underestimating timelines for production or marketing, and not fully understanding the market need or your target audience.
4. High Competition
According to the study cited by CB Insights, about 20% of startup failure is mainly caused by high competition and changing market conditions.
A big example of startup failure because of high competition is Digg, a social news website that allowed users to submit and vote on content. It was a hit in the early 2000s together with other social news sites like Reddit, Twitter, and Betaworks.
However, due to intense market competition and changing market conditions, startups like Digg often face unfortunate disasters.
Startups especially in their early stages do not have much profit to fall back on and no established customer base. Thus, rapid changes in the market are often sights as an increased risk.
The COVID-19 pandemic is one example of changing market conditions that may lead to failure patterns that could be long-lasting, especially for some brands that were already experiencing a great struggle due to high competition even before the pandemic.
To avoid a similar fate, monitoring your competitor’s actions in dealing with the market demand is a great way to get ahead and beat the competition in an overly saturated market. Another way is to utilize available resources and tools that will help you gain ground over other companies in your industry such as:
- Cyfe: This platform lets you create all-in-one dashboards to monitor both your online presence and that of your competitors.
- Watson Analytics: This predictive analytics and data visualization software hand the power of Big Data to small businesses.
- GetResponse: This is an email marketing platform that allows you to track and monitor the success of your emails.
5. Unviable Business Model
A business model is your business’ ultimate guide on how it should operate and make enough money to support its functions. It serves as a backbone of your business that needs to be strong and sustainable to achieve rapid growth.
Unfortunately, according to the census, about 17% of startup businesses do not have a business model. Thus, Deborah Sweney, co-founder of MyCorporation.com, in one of her interviews stated that business models are so significant that it guides your business where it should go and where to set your focus to achieve long-term goals.
Without a viable business model to support your business in the long run, your business will not grow and prosper. There are various types of business models that you can utilize depending on your product or service offered, company culture, envisioned goals, and target audiences.
To inspire you, here are a few interesting examples of business models:
- Marketplace: This is a very popular model among startups. Essentially, this model demands you to double your efforts as the marketplace allows both parties to search for each other rather than offering a service to find a buyer or seller.
- Aggregator: In this model, a company aggregates information on goods or service providers in a certain space and then offers its services under its own name. Popular examples include Airbnb and Uber where individual homeowners or drivers are independent of the company.
- On-Demand: This model is often confused with the marketplace model. The key difference is that a marketplace doesn’t own the goods and properties that are offered on its platform. Examples of startups that use this business model include Bird which actually offers their own scooters for short-term usage and WeWork which own properties that they offer for lease.
- Disintermediation: This is a standard business model often used by known brands like Walmart, Alibaba, Dell, Amway, and more. This is widely used among wholesalers, retailers, and businesses that offer direct selling.
- Subscription: The subscription model is becoming more popular as it involves companies selling a service via subscription. Examples of businesses utilizing this model include Netflix, Spotify, Salesforce, and more.
- Freemium: Among other business models mentioned, the freemium business model is one of the most used models among startups as it combines free and premium services into one business model via a tiered approach. The free service you offer to everyone would include basic features of the service. Examples of brands and businesses using this model are Grammarly, Canva, LinkedIn, Dropbox, and more.
6. Legal Challenges
Legalities play an essential role, especially among new businesses and startups. It is imperative to ensure that your business is adhering to all the laws and regulations as well as address any legal complexity concerning tariffs, zoning, and environmental protections that may apply to them.
One example of a company that ran into legal trouble was Coolest Cooler. Even though this Kickstarter campaign raised more than $13 million, it fails to deliver its coolers to more than 20,000 people due to the increased tariff by the US government on products imported from China.
Another example is Beam, a mobile savings app that met its end quickly after falling afoul of the Federal Trade Commission. Thus, it is important to clearly understand the legal landscape before starting your business.
7. Investor Issues
Investors can be both a startup’s best friend and worst enemy. Many startups have limited funds thus having secure funding and a source of resources is vital to their fast growth. Investors are the ones who supply this need.
When additional funding is needed, investors provide the monetary needs. However, this can be a problem when the management team does not work well with its investors. One common issue is when investors try to interfere too much in business operations.
Another problem is when investors include a lot of terms and conditions in their investment agreements. In March 2019, Pellion Technologies, a lithium-metal technology offering products for drones and automotive batteries announced its closure as one of its major investors, Khosla Ventures lost confidence that Pellion could make enough money serving a niche market.
Such a scenario may also happen to any startup business out there. Handling investors is never an easy task. One needs enough knowledge, expertise, and experience in handling each situation in gaining confidence.
8. Poor Management Team
A poor management team is an incredibly common problem that causes startups to fail. A poor or weak management team makes mistakes in multiple areas like building a weak business plan, implementing a poor marketing strategy, building a poor product, and even handling employees and the internal team poorly.
Since the late 80s studies show that poor management team is one of the main causes of startup failures. Startups are built by teams, and the founding team is inseparable from their company, their motivations and attitude have a significant effect on the established company culture.
Most startups usually open with the founders and one or two employees. The business is manageable and the focus is primarily on making sales. However, as the team grows and the business scales up, activities become overwhelming and stress builds.
With the right team, daily pressures can be more manageable than overwhelming leading to a more stable team, active decisions, and sustainable solutions.
When in larger companies, department managers can be easily transferred and replaced but if the problem is rooted in the startup founders, it could be the beginning of a failing business.
-Janine Castle, Lifestyle and Health Expert
9. Premature Hiring
Entrepreneurship only works when startups can hire employees the right way. While some characteristics of good employees are fairly universal, such as people skills, perseverance, and the ability to problem-solve, finding the right one takes time.
Jeremy Ong, the owner of HUSTLR and a chain of blogs and eCommerce stores, learned this the hard way. According to him, when a company experiences rapid growth, most often than not, businesses start to employ more people prematurely because of desperation to fill the needed manpower.
As a result, premature hired employees will later turn out as mismatched to company culture, envisioned purpose, and long-term goals. Another example is the co-founder of The Slumber Yard, Matthew Ross who also had a similar experience due to hiring too quickly without the proper interviews and screening.
While it is essential to take your time in finding the right people to be on your team, it is also important not to take the hiring process way too long. The most important is to hire employees that efficiently fit your vision and long-term goals.
In addition to that, amidst rapid growth, one of the most highly recommended strategies in finding the best person to do the job for you is to outsource. Outsourcing is an efficient and sustainable solution, especially for non-core tasks that the company needs.
10. Poor Product
Another top reason why startup failure happens is due to poor products.
According to the Forbes investigation into the finance and accounting platform, the ScaleFactor, the company uses aggressive sales tactics and prioritized chasing capital instead of building software that ultimately fell far short of what it promised.
According to the Forbes investigation into the finance and accounting platform, the ScaleFactor, the company uses aggressive sales tactics and prioritized chasing capital instead of building software that ultimately fell far short of what it promised.
Ignoring your customer’s feedback in the hopes of minimizing additional costs, may eventually lead to greater loss. Over-customizing is also one of the triggering points of a startup failure.
Saying yes to every requested feature that the customer makes is also not advisable. According to the co-founders of Shoes of Prey, based on their unfortunate experience with customer demands and over-customization, they stated that the mass market does not really want to create but simply to see the latest trends and wear exactly the same as that.
11. Pricing Issues
Pricing is a dark art when it comes to startup success, and startup post-mortems highlight the difficulty in pricing a product high enough to eventually cover costs but low enough to bring in customers.
The 2019 shutdown of genetic testing and scientific wellness startup Arivale came as a surprise to many partners and customers, but the reason behind the company’s failure was simple. It was all due to unpractical pricing issues.
Even if the problem isn’t investors backing out, new businesses can fail if their pricing is way too high or too low. To avoid a similar fate, the founding team must understand their target audience, their buying behaviors, and their purchasing power to set the right price effectively.
Here are some pricing strategies that can help you to lead your business to success:
- The pricing strategy should communicate the value of your product.
- It should place you among your competitors and help you find your position in the market.
- Pricing strategy should reinforce your revenue strategy.
- Your set price should allow you to invest in technology and innovation that will help improve your product or service.
12. Poor Marketing
Aside from setting the best price that simultaneously supports your company’s costs and that sweet spot of not too expensive nor too cheap for a product, establishing an effective marketing strategy is just as important as that leads your business to success.
No matter how great your offered product or service is if no one knows about it, it is completely useless. While you don’t necessarily need a professional PR team at the beginning, learning from the past stories of startup failures that don’t use marketing effectively can be one of your complementary strengths.
One great example is the AR/VR Expert Antony Vitillo who ignored marketing. According to him, all they did was code but over time they realized that marketing is as important as the product.
If you don’t market properly, no one knows about your product and so no one can buy it. Spreading the word may seem a waste of time for many entrepreneurs, but it is fundamental for a business to survive.
Conclusion
While there are certainly other more reasons why most startups fail, learning some of the most common ones will get you ahead of your game. Startup businesses are high in risk but so does other businesses out there.
Learning about the past mistakes of others as well as matching them with good attributes like persistence, diligence, and hard work is also necessary for minimizing startup failure and maximizing your chances of success.
Frequently Asked Questions
How to maintain creative ideas to sustain a successful startup?
Examine your business model and take something out of it and see whether or not it helps your domain. As no two people think the same, always manage your people effectively to not miss out on new things that can greatly contribute to your business.
What strategy ensures a smooth transition as a company pivots to something new?
Change is the only thing that is permanent. However, doing it too rushed or too early for your business to handle can be a risky move. Make sure to remember your core identity and prioritize open communication to eliminate confusion.
What is one thing first-time founders should remember when they’re trying to get the interest of a potential investor?
Promise less and give more. When pitching an idea to investors, it is always essential to remember that the more you promise, the more expectations are at stake. Instead of running your mouth about promising claims, providing them with actionable results is way better.
