Approximately one-third of startups fail within the first two years of operations and another one-third close their doors by the seventh year in business. It’s a disturbing record of under-achievement especially since entrepreneurs tend to be incredibly hard working.
Why can’t entrepreneurs perform better?
After several years of interviewing failed business owners across the country, I have a much better sense of what causes the most carnage during the first years of business operations. All of them said, “I wish I had known better.”
Had they just “known better” and fully understood the hidden dangers of their actions they wouldn’t have spent the money, took the office space, cashed the check or signed on the dotted line. Their business lives would have been different.
So what are some of the big mistakes of big idea entrepreneurs?
1. “Giving” away equity
Most start-up entrepreneurs are short on cash. One way to encourage employees and professionals to join the entrepreneurial mission is to offer an ownership stake in the emerging business. Sometimes the equity stake is small—only a few percentage points. Other times, the starting founder will split equity 50%-50% with friends or business colleagues.
A common problem is the big resentment associated with entrepreneurs “giving” away a stake in the business and getting nothing in return. Perhaps the partner didn’t have the skills to get the job done or just didn’t put as much time into the business as the founder expected.
Once stock certificates representing company ownership are issued, it’s really hard for founders to get them back. The better approach is to get a contract that ties ownership to performance or annual vesting requirements.
2. Waiting too long to raise cash
Companies go out of business when they run out of cash. It’s that simple. Because entrepreneurs would rather be serving customers, writing code or creating the next industry-disrupting technology, they procrastinate on fundraising until they are almost out of cash.
The real deal about raising funds for a company is lenders and investors don’t make fast decisions. Actually, the more impatient entrepreneurs behave, the more wary investors and lenders are of the entrepreneur. Lenders and investors don’t want to back entrepreneurs who avoid the issues that matter most to company survival. Simply stated, if your company needs cash, it’s your responsibility to create the action plan to raise cash without delay.
3. Winging it
No CEO will ever have all the right answers. Tech-focused, first-time entrepreneurs come across a lot of administrative, marketing, sales and leadership problems that they never encountered before in their salaried careers. It’s only natural that beginner’s mistakes will be made, sometimes costly ones.
When entrepreneurs face big decisions, the better approach is to ask for help from someone who clearly “knows better.” Instead of winging it and guessing the right answer, find a professional who has already “been-there and done-that” and ask for help.
4. Signing personal guarantees
When a business closes, the founder is heartbroken. If the founder signed one too many personal guarantees, then the founder may be paying off business debts for a long time to come.
Even if you set your company up as a corporation or Limited Liability Company, you may still become personally liable for your company’s unpaid business debts. It happens when entrepreneurs sign documents that include “personal guarantee” language that obligates the signer to repay unpaid debts. You can find this language buried in business credit card, bank loan, equipment leasing and tenant agreements.
The better approach is to avoid taking on more contingent debt than you can afford should the unthinkable happen. Landlords, credit card issuers and banks do pursue entrepreneurs for payment.
5. Not getting an employment contract
Can founders get fired from their own company? Yes. It happens when a board of directors loses confidence in the founder’s ability to manage people and invest cash in a productive way.
The starting point for protecting your position in a tech company is to put together a terrific, well-qualified board. Skip friends and family members. “Weak” boards that lack independence always get overhauled by new investors. Next, put in place a reasonable employment contract prior to raising money from investors. Founders are more likely to negotiate a friendly, but fair employment contract with board members they invited to the company than with a board that is heavily influenced by impatient investors.
6. Hanging on to so-so employees
Every time start-up tech entrepreneurs put unproven staff in critical positions, they jeopardize their company’s survival. Here’s why: The longer it takes a company to meet product development schedules or bring in profitable sales, the more capital founders may have to raise to cover added operating costs. Also, beginner’s mistakes cost cash to correct. The better way is to hire people who know what they are doing and can meet deadlines. If they can’t, entrepreneurs should make a fast change for someone better.
7. Losing technology ownership rights
Startup companies frequently hire independent contractors while developing new products or technologies. To clarify the ownership of intellectual property rights, insist on vendor contract agreements that include provisions to “assign” all intellectual property rights to your company as a non-negotiable condition of the work relationship.
The last thing any entrepreneur needs is an unexpected dispute over the ownership of successful innovations and patents. Unclear intellectual property ownership documentation is also a common reason why entrepreneurs get turndowns from smart investors.
Sometimes it is more helpful to know what failed entrepreneurs regret they did wrong than what a smaller number of successful entrepreneurs did right. Use this information to bring extra precision to your entrepreneurial workday. You can do it!