Current DateJuly 6, 2022

Five Reasons Startup’s fail to Scale their business

When we look at various start-ups, we realize that while many are doing simply fine in their initial stages. But as they tried to scale, some became a Phenomenon. While for most the flame goes out. Why does that happen, and can we identify some of the reasons behind them?

The Reasons

When I think about them a few reasons I can understand are:

  1. Positives that is when the evidence and data being interpreted for its success or not true.
  2. The sample of the audience is not truly representative of the larger audience pool.
  3. Non-scalable USPs of the business.
  4. Unintended outcomes or negative spillovers.
  5. Cost traps.

Background information

For the last few years, I have been working with small businesses. I also try to implement various models to businesses to help them grow. While many of these business models and their strategies have worked. But not all of them work for all the business ideas all the time. As each business idea is different, I understand that each of them need a unique strategy and model to scale and grow even when the basic model & strategy remains like a few implemented before.

What I have realized over the years of the challenges I have faced, failed and overcome that there is never one reason for these failures nor are there only one reason for their success. Often every business idea do well at a small and manageable scale. The numbers look good and incremental growth all point to a promising future. However, this promise of growth does not pan out when trying to scale.

There are many reasons that are beyond the control of the entrepreneurs, mentors and even the season investors as well as experienced founders. I would like to draw attention to a few signs that can indeed be avoided at the founder’s level. Based on my more than 15 years of professional experience as a management professional, start-up and small business consultant, and of that the major past being in one or the other entrepreneurial capacity these signs can be:

False Positives & their role in startup failure

A major reason that models and ideas are not able to scale when the most basic data that the whole Plan of “the idea is scalable” is not true. This false data can be a factual or even a statistical error. In the rush to prove that their idea is on the right track to becoming an Unicorn, the team often gets biased towards the data in front of them. The sample size of the customers, the scale of the marketing efforts, not considering the competition at scale, are just some of the points we often miss.

Most start-ups that fall due to false positives in their basic strategy to scale up, are those who ignore the fact that the smaller the sample size, the chances of statistical error or false positive becomes higher.

Also, sadly but true, false positives often happen due to intentional lying by someone on the team. Many a times someone on the team gets biased that the reason of the current data is scale. That is the current problems would go away at a scale, when the company or the idea reaches the larger market. The most often lied about, sometimes to themselves even, are related to cost of development or employee salaries or even the size of target audience and the percentage of the conversion.

One solution that often works well at rooting out false positives from scaling model is to implement it at multiple sets of target audience, all away and as diversified as possible. Three or four successful applications often means that the model is promising and as clean of these false positives as possible.

How startup’s fail due to false Sample Size

The other trap that entrepreneurs set themselves up for is not account for their sample size to be representative of the actual scale of the audience. The most often asked question is that is the idea scalable? Whereas I feel that any idea that has worked for a certain sample is scalable. However, the scalability gets limited by other factors.

For example, let’s say a particular product has a 2% user base in a sample of 1500 prospective audience size considered. These are promising numbers but to make the idea scalable on the size and percentage of conversion is often not enough. The geographical or other factors of dispersion of this audience size also factors in. Say that these audience being targeted are also graphically dispersed that the cost of reaching out to them becomes costly. With time, the advent of technology and resources have reduced these factors to very few. However, the sample size, its viability at scale and these factors cannot be ignored completely.

One industry that can be taken example for this would be the furniture industry. Often successful in a limited size, scalability of their efforts get stifled due to logistical costs and localized competition. Often most of the sample bias results when we make scaling decisions based on surveys or friends and family customers.

For obvious reasons mentors and experts recommend getting your first paying customer from a random pool of customers. And to keep this sample as random as possible.

Non Scalable USP’s

Every idea works because it has certain USPs that their customers love. The trick is in creating USPs that are scalable. If the USP is founder centric or even people centric it gets tougher to scale. The obvious reason being the fact people cannot be cloned at least yet. And hence the obstacle.

The problem occurs when the team forgets this obvious factor while scaling. Most food ventures fail at scale. Because often they fall prey to the idea that their menu is what makes them popular instead of their kitchen. However, look at some of the largest food chains like McDonald’s KFC et cetera. That’s how we know that scaling food business are possible.

What’s the secret we can learn from these already scaled businesses? It is that the success is in standardizing the system and processes. So much that even in the absence of the core team, the product and services can be delivered as intended to the end customer, with as less friction as possible.

As mentioned, people do not scale well. So, how to make any idea scalable? We need to make the entire system and process such that we need fewer high-performance individuals, on the team, at scale and still be able to deliver the same quality to our customers. One other thing to consider at scale is the impact of local regulations resources and the loyalty of the people involved at scale. The challenge is to keep all these constraints in perspective while building the processes and systems for scaling.

Unintended outcomes / Negative Spillovers

Everything we do or plan to do has some intended outcomes. The same also applies to building businesses. At scale, these unintended outcomes have a spillover effect. Spillover effect is when one event can affect the outcomes of the other events, often more than one.

For example, a new factory opening in a new location and the residents in that location getting sick. It will have a spillover effect at all the other factories. It happens even though the effect is localized due to local geographical and climatic factors.

Many reasons are considered manageable losses or negatives that can be ignored at a small scale. But as a business scale, it’s likely that the spillover would increase exponentially if left unchecked and unplanned. Often these spillovers give rise to competition at manageable businesses which are content at small scale and do not face similar issues. We also need to know that positive spillovers also exist, and they grow with the growing of the idea.

For example, the impact of social media on scale can have a negative as well as positive spillover. The idea is that, entrepreneurs need to understand negative spillovers. They have to create strategies and standard operating procedures to minimize their impact as much as possible. These need to be at the design level of scaling an idea or even at the ideation level. And when the team comes across positive ones, they not only need to get the most benefits out of them but be inclined to create as many of them as possible.

In the recent history of start-ups, if I must give example of one brand which has done this well, it would be Zomato. They have scaled the positive spillover today to a scale where the negatives hardly get a chance to be recognized and be of much negative impact.

Ignoring Cost Traps can cause startup failure

One thing every start-up needs to work on and decide early on is to understand not only if their audience like the idea but also to know if they’re willing to pay for it and how much.

The cost trap that I talked about earlier comes into consideration at this stage. If the cost to deliver is not lower than the cost customers are willing to pay for the services, it is doomed to fail. When creating the plan and executing your business idea the entrepreneur must understand that up-front capital can be higher than even the competition as recouping them over a longer span of time is easier. Often businesses fail at scaling. In fact they fail while scaling is due to the operating and recurring cost being higher which bleeds the business out slowly. Failing to find a viable price point which covers the operating cost, marketing cost and then some, even at scale is critical for any business to succeed.

We often read about economies of scale but instead of really applying to our businesses after understanding it, we presume that everything is economical at scale.

If we observe one of the most celebrated entrepreneurs of this era Elon musk, we will realize that every business that he has created is something that will thrive as it scales to a larger point. This is one of the reasons that his companies and his personal net worth has grown with scale and the growth is not linear. Whether it was with PayPal or even Tesla both rely on costs that reduce nonlinearly with growth.

Tesla’s biggest course or batteries and solar power generation cells. And as we have it both, cost less at scale and with scale. As musk himself says, his alien dreadnought is about increasing efficiency as the business grows. I am 100% sure, even the plans for space X is also based on economics of scale. Also, I talked about processes and systems earlier so that even average performance can deliver great customer experience. One reason was that high-performance cannot be scaled. Other reason is that hiring high-performance comes at a cost. With time and scale this cost goes significantly up as retaining the performers is even costlier.

Summary

When you come to think of it, every plan or idea that is unable to scale, has its own set of problems and reasons for being unable to scale. But if you look at all the scalable ones, the reason they can scale inherently are similar. Once we understand the reasons, learn to anticipate them. Once we plan to navigate around them, our business and ideas eventually become scalable.

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