It seems that everyone is running a startup right now. So, if you're not in tune with the times, you might feel a bit left out, especially with the term. Now, the term startup floats around the internet more than ever, but what does it mean? What is a startup?
This article will answer this question and many more than can come up when talking about startups. Plus, we'll introduce you to crucial knowledge that can help you achieve great things with your startup.
What is a startup?
A startup is a company at the earliest stages of operations, but the term goes beyond that. There are a lot of critical aspects to a startup that transcends a definition. First, the founders are vital.
A startup is mostly nothing more than its founders working hard to get their idea up and running. This leads us to another essential part of a startup, and that's what does a startup do? Well, the answer isn't as simple as you might think. A startup wants to solve a problem. While that's something that many companies do, a startup wants to solve it by providing a solution.
This solution doesn't imply that it's finished. In fact, the product or service can be in the development stages. The founders are launching the startup to finish it and then grow. As we'll see later, a startup needs money, which might also need guidance. That's when many other factors come into play that can determine success or failure. Unfortunately, startups fail a lot, and we'll also explain why this can happen.
How does a startup work?
You'd be partially correct if you think that a startup works similarly to a regular company or corporation. However, there are critical differences between them, making working at one a unique experience (trust us, we know).
It all starts with the company's core goal, and that's the problem that it wants to solve. If a startup doesn't have a problem, it doesn't have a purpose, and it's essential for the next step.
You might have a solution, but there might not be a market for what you're solving. Therefore, researching your startup's target audience and the current market is vital. This, of course, isn't a step that's set in stone. Instead, it can be an iterative process, and once a startup gets up and running, it can change solutions over time.
Competition is another vital part of running a startup. Even more so at the earliest stages. Startups are rushing to get the best solution, so keeping a pulse on the competition is basic.
So, a startup works by first finding a solution that stands out from the competition. Then, it tries to get that idea to the market. At this point, the founders need to create a business model for the next step, a critical one, funding.
How Are Startups Funded?
Unless the founders are already millionaires, a startup needs money. Funding is a vital part of a startup, and we will cover it in detail in this article. Yet, first, we'll cover a necessary step that many startups tend to overlook before we do so.
Do startups need a business plan.
Many think of one answer when founders read this title: of course! Well, the answer isn’t an absolute. While it is said that startups do need a business plan, it isn’t always the case. Let’s dive deeper into why you should or shouldn’t have a business plan.
First of all, what is a business plan? In short, a business plan outlines what you want to achieve and at what time. At first, most startups create a three-to-five-year plan. In it, the founders explain the strategy, goals, and budget.
The challenge is shoving everything necessary into a document and getting an investor to read it. While it’s common for startups to create them, don’t think that it’s mandatory. A business plan has all the information an investor needs to know your startup better, but ask yourself this: would you read one? In fact, would you read more than one?
Another disadvantage of the business plan is how long it can take to make one. You could spend this valuable time doing other, more valuable things, such as running your startup. In the age of the lean startup, there are different ways of pitching to investors. One of them is the pitch deck.
So, in the eyes of many, a business plan is vital because it allows you to present your startup to investors. Or, at least, that’s how founders used to view it. Now, startups either obsess over them or ignore them. You can rest assured that the pitch deck is an excellent alternative for those who don't believe in a business plan.
We've written an article that dives into full detail about creating a business plan. For the sake of this article, let's keep things summarized. A business plan is vital because startups either obsess over them or ignore them. In reality, startups should take their time creating one and understand that its best use is as guidance. It might not be a perfect result, but one group, in particular, will pay attention to it: investors.
How do Startups Get Funding?
There's no way around it. Startups need money, but getting it isn't as easy as asking for it. The good thing is that, as a startup founder, you can find many different routes to secure funding. Let's look at them.
- Self-funding: this is the most obvious route but is challenging to achieve for most founders. Still, if you have enough money, you can self-fund your startup.
This term is also known as bootstrapping. Fun note: this term originates in the 18th and 19th centuries, and it means to pull oneself up by one's bootstraps.
People use it when referring to making something out of nothing. So, it summarizes running a startup with scary precision. But, let's say that you don't have the funds or want to test other ways. That's where our second alternative.
Some of the positives are that you control the entirety of your operation. You decide where to take your startup, which could be a con at the same time. This type of financing can be lonely; plus, it requires you to dish out a lot of your capital. If the startup fails, your savings could disappear.
- Loans: small-business loans are another option to have control of your startup. As small businesses become more common, this tool can be helpful for a lot of startups. In most conditions, loans can get fast approvals, giving you cash in a short amount of time.
As with any loan, the negative side is that you have to start paying the loan once you get it. This could become a financial burden, especially in the first months or years. Another challenge is that banks don't lend to everyone.
If these two options are not possible for you, there's the third and most exciting one: investors.
- Investors: Investors and venture capitalists want to invest in startups. So, they look for companies that spike their interest, and contrary to banks, they understand the startup world. So, they might offer more experience in your business sector.
Not only are investors and VCs looking to invest in startups, but they can also be actively involved with the development of the startup's idea. Now, that's not saying that all of them will, but it's traditional to get at least some involvement from them.
The downside to dealing with investors is that you have to give up part of your company in exchange for their money. This isn't a bad thing, per se. However, remember that having ownership usually means more involvement. Investors and VCs can be significant, so let's dive more into how this process works.
How does startup funding stages work?
Once you decide to embark on getting funding for your startup, there are many stages. All of them are important, as they teach you a lot about how startups operate. Let's analyze all the startup funding stages, but before we do that, here's a term that you'll need to know.
A valuation is how much money your company is worth in the market. There are a lot of factors that help determine this figure, and it increases with each round. You can think of it as the money you would need to build an exact copy of your company from scratch.
Pre-seed funding stage
This is a term that you will often hear in the earliest stages. It refers to the research phase. You can think of this stage as the funding required to investigate three things:
Is your idea feasible?
Has it been done?
How expensive is it?
What will be the business model?
About who to contact, we've written about the three F's that you can reach out to for funding the pre-seed stage. They stand for Family, Friends, and Fools. Of course, it's a play on words (sometimes), but that's what it means. It's reaching out to your close circle and asking them for funding. While there's no set rule on how much money people invest in this stage, a company valuation ranges anywhere from $10,000 to $100,000.
Labels are essential, especially for future investment. So, keep in mind that a pre-seed funding round usually involves a startup that doesn't have traction yet, nor is it an actual business. That comes in the next stage.
Seed funding stage:
Your idea is actually up and running, plus it has some customer traction. So, it's time to seek funding to take your startup to the next level. This includes launching a product or marketing for new products. Plus, other plans include expanding the company or researching the market.
The seed funding stage is a combination between iteration and validation. Your idea still holds but might need some further change. Startups at this stage have a valuation of anywhere from $100,000 to $6 million.
Series A funding:
We've discussed funding that usually sticks to the smaller investors up to this point. It all changes when your startup reaches the Series A stage. It's common to see venture capitalist investment begin at this stage.
While there's no determined investment size at Series A, you can expect more significant valuations here. This stage is also critical in setting the startup for future growth. So, you can expect anything from managing losses to optimizing your business.
Series B funding:
There comes a time when a startup has secured customers, has a steady revenue stream, and a scalable ideal. If a startup is at this stage, then most likely, the funding round will be a Series B.
Investors are looking to double down on researching the market at this stage. Plus, the Series B funding round involves increasing the market share. This is valuable so that the company can set itself up for consistent growth.
Series C funding:
It's not set in stone, but a Series C funding round can give investors confidence in your startup. Once a startup hits this stage, you can begin thinking on a global scale. Such a vision motivates investors to dish out even more considerable sums of money.
Plus, if the startup is big enough, there's an opportunity to buy smaller companies, thus eliminating some of the competition. You can even think of this stage as the ideal one to develop new products. Yet, as we'll see in the next round, being at a Series C stage also incurs significant responsibilities.
Series D funding (and beyond)
Not all startups look to raise beyond a Series C funding round. However, when they do, it can be due to two main reasons:
Series C underperformance: if a startup failed to reach the goals it set for its investors in the Series C funding round. The company can address the issues and right the ship with fresh coming in through the Series D round.
Chances to grow before an IPO: companies want to go public, but there might be an opportunity worth analyzing before entering the IPO stage.
You can find these later rounds going as far as a Series F funding round. Yet, it is uncommon to see them go beyond that. When a startup has seen such growth, it's time to reach one of its most important stages.
The media loves celebrating an IPO, and with due reason. It's the peak for a startup, as it can shed the startup label and become a public company. There's also a significant financial implication as now the public can buy shares of the company. If done right, the company can now raise more funds for growth. Otherwise, the owners can see it as the right opportunity to cash out.
The IPO isn't an easy process. It takes time to prepare for one and involves authorities such as the Securities Exchange Commission and the government. So, for companies to embark on these stages, teams usually require help. Yet, if you're going public, it means you've done a lot of things right, so kudos to you.
So, let's say that you're not a startup founder, but you're interested in investing in one. Investing in a startup can be an exciting opportunity for many, but there's a lot to learn.
How to invest in a startup?
Most people who put money into a startup are accredited investors. This means that they've gone through and fulfilled several requirements. These requirements range from a minimum personal value to experience in investing.
The ideal way to invest is through crowdfunding sites if you're starting. No, this isn't about potato salad. These sites are platforms that offer a curated selection of companies for you to invest in. We've made an excellent video on the topic; check it out here.
These platforms, such as WeFunder and Republic, are easy to use and allow entries for low fees (in some cases, $100). However, it's important to note that investing isn't only about dishing money. There are some limits. For example, the SEC limits how much non-accredited investors can invest in 12 months. This is proportional to their net worth.
Once you invest in a startup, you establish a contract with the company through these platforms. This agreement usually determines the options you have for investing in that startup. The most common are:
Debt: You can think of this option as you becoming a loaner to the startup. You get an interest that depends on how the business performs over time.
Convertible note: this contract turns debt into shares when the startup reaches an agreed-upon goal. You make money when the company goes public or is purchased by another.
Stock: this usually applies to later-stage companies. These startups can allow you to buy shares, but keep in mind that you can't sell them the same way you would a publicly-traded company. Again, you make money when the company is sold or goes public.
Dividends are the most common option for later-stage startups that have achieved success. Investors can buy shares that pay annual dividends. Not all investors can apply, nor do all startups offer this option.
Before going through with the investment, be sure to soak up all the details of this fascinating world. After all, an investment conveys risk, and the more prepared you are, the better. Unfortunately, there's a downside.
Why do startups fail?
There's no way to deny that the thought of a startup is exciting. There's a chance to innovate and bring a new solution to the market. However, a startup has more chances of failing than making it big. Now, that's not to dishearten you. In fact, it's the total opposite. The more you know, the more you can help your startup achieve success.
In this section, we're detailing why a startup could fail. Remember that these aren't the only reasons, but understanding why they happen is valuable for your startup's success.
Running out of cash.
Startups fail for several reasons, but the leading cause is running out of cash. Around 40% of startups fail because they run out of money or fail to raise new capital. This can happen because a company fails to take action and seek more funding sooner.
A startup can burn through money fast, and if founders ignore this, they can find themselves rushing to raise more capital. As a result, they end up with too little, too late. Keep in mind that this can happen even if the idea is excellent.
External factors can also contribute to a startup running out of cash. For example, if there are economic challenges, it might be harder for investors to dish out money. While this situation is out of the founders' control, it's best to prepare. A business plan and the discipline to be on top of the financials are critical steps.
There's no market
So, you've come up with the best idea. It's a perfect solution to a problem that you think is tormenting the entire world, but there's a problem. No one is buying it. There's no market.
A recent study by CB Insights showed that 35% of startups cited not having a market for their failure. How can this happen? Doesn't the founder study the market? Well, yes, but looking at the market isn't a guarantee.
As we've said in this article, it's always important to iterate and self-evaluate the progress to understand if there's a need for change. The market can change quickly, leaving the slower ones in the dust. This reason ties with the next one.
The startup world is competitive, and, chances are, another company has thought of your idea for solving a problem. So, it's a matter of speed. About a fifth of startups failed due to competition, and it's only going to get tougher.
As the market expands and more startups race to make it big, competition will increase. This is probably the most challenging aspect to control, as other companies are beyond your reach. However, you can stay on top of your game by arming yourself with the best tools: great investors, an excellent team, and a great product.
That's not the only path you must take. Keep a pulse on what the competition is doing. Though the saying goes that a startup is a marathon and not a sprint, you have to watch out for the competition. If they stumble, you can avoid them, and if they speed you, you can, too.
The Wrong Business Model
We've said it here: a business model is essential, but it's also malleable, just as it is valuable. Sticking to one just because you want to might do you more harm than good. Startup founders have reiterated the importance of staying on top of a business model that can work.
Startups fail when their business model fails to adhere to reality. This, in turn, can drive off possible investors. They hesitate to invest in your startup when there's no reasonable way to capitalize or gain traction.
The Regulatory Challenges
The world is a cruel place, and, sometimes, it lashes out at startups. Whenever countries increase tariffs or change the import costs, startups can feel the effects. But, unlike big companies, they have less room to maneuver.
There can also be changes in requirements that can exclude certain technologies or make it harder for them to enter the market. While these conditions are genuinely outside the control of startup founders, there are ways to ready yourself for them.
Stay in contact with experts in the field. They can provide you with the information you need should something like this happen. Also, as we've said before, keeping a pulse on the market is vital.
These are five reasons why startups fail. Of course, they aren't the only reasons, but studies have shown that these are the most common. Learning about them can save your startup and give you the best ways to ensure a stable future.
How to pitch your startup?
You go through the hustle of developing your idea into something with potential, but there's nobody to reach out to. So, how do you pitch your startup?
The best way is to use platforms to help you reach and pitch to investors, such as Slidebean. Yes, that was a shameless plug, but that's what we do. We help founders pitch to investors while also providing essential tools for investor tracking and pitch design.
Plus, we've written this article on how to pitch to investors. It's an exciting process that can lead to some frustration. So, we recommend that you read it and hammer out any questions you might have.
In this article, you might have noticed that we haven't mentioned the term small business, with good reason.
Startup vs. small business: What is the difference?
There are many subtle differences between a small business and a startup, but one that stands out is the end goal. As you've read in this article, a startup's key is to disrupt the market. They want to grow, usually fast, take over the competition, and have a firm grasp on the market.
On the other hand, a small business doesn't have that vision. Instead, the goal is to remain in business. The end goal of a small business is to find sustainability, which doesn't necessarily include growth.
Then, there's the funding. While small businesses and startups can rely on loans, it's almost mandatory for a startup to go through investors and venture capital. So, a small business might only rely on a loan, or nothing at all, using personal savings.
If you want to know more about the critical differences between them, we've written this fantastic article. (Again, we're not bragging).
How can we help you get started?
So, we've seen what a startup is. We've also covered the vital steps to make sure it succeeds, but sometimes, all this information can feel overwhelming. So, why not let us help you?
We've created Slidebean, a one-stop place for founders to find all the information they need to set up and grow a startup. From creating your pitch deck, or improving it, to finding the best investor for your startup, Slidebean has you covered.
Content creator in love with writing in all its forms, from scripts to short stories to investigative journalism, and about almost every topic imaginable. From start-ups to nature, from literature to aviation. Hearing impaired, so let’s talk loud and clear.