The Entrepreneur Insider network is an online community where the most thoughtful and influential people in America’s startup scene contribute answers to timely questions about entrepreneurship and careers. Today’s answer to the question “How do you know it’s time to drop your startup idea?” is written by Alexander Goldstein, founder and CEO of Eligo Energy.
You’ve got a killer idea, a great team, and an even better product, but your startup has yet to take off in the race to be the next unicorn. So how long do you stick around and try to make it work before moving on to the next project? Well, that depends.
The common sense answer is that when the money runs out, the startup is done. But having a total awareness of both the amount of money you have to cover your expenses and the amount of profit you are able to generate at all times will paint an even better picture of the true health of your startup. Venture capitalist Paul Graham provides a fantastic metaphor for this approach: “default alive” or “default dead.” He explains it like this, “Assuming their expenses remain constant and their revenue growth is what it’s been over the last several months, do they make it to profitability on the money they have left? Or to put it more dramatically, by default do they live or die?”
Graham goes on to say, “Here’s a common way startups die. They make something moderately appealing and have decent initial growth. They raise their first round fairly easily because the founders seem smart and the idea sounds plausible. But because the product is only moderately appealing, growth is ok but not great. The founders convince themselves that hiring a bunch of people is the way to boost growth. Their investors agree. But (because the product is only moderately appealing) the growth never comes. Now they’re rapidly running out of runway. They hope further investment will save them. But because they have high expenses and slow growth, they’re now unappealing to investors. They’re unable to raise more, and the company dies.”
It’s easy to drift to the optimistic side when things hit a rough patch or even once you realize your startup’s financial outlook is less than lively. Entrepreneurs are optimists by nature. We would not be doing it if we weren’t. But make an effort to step away and see reality of the situation when trying to decide next steps for your business. Be open to the possibility that current iteration of your idea may not do as well as you would have hoped. It may be time to pivot or try another take on the business model.
The best test of a good idea or product is measurable success that you can point to and improve upon with each new version of your business. Do the basic economics of your business work? You must make sure that you’ve done everything you possibly can to build a thorough, efficient, and profitable business model. That is truly your best defense against your startup going under.
But then again, sometimes forces completely beyond your control cause you to fold. For example, I was an early-stage investor in a business that made it easy for Russian customers to buy products on eBay (EBAY) or Amazon (AMZN). The company happened to be very tied to the Russian economy, because the better the Russian people were doing, the more western products they bought from the company. As the business was growing and building its infrastructure and customer base, Putin decided to take over Crimea. Within a few months, the exchange rate between the U.S. dollar and the Russian Ruble almost doubled and the United States imposed sanctions against the Russian economy. We had a solid business, but it didn’t reflect the realities of the world in which we now existed. Russian customers could no longer afford the products, and revenues continued to fall. After various cost-cutting measures could not keep up with collapse of the Russian economy, the founders had to close the doors.
In the end, it all comes back to having a realistic view of your company and the economies that it depends on. Your awareness and ability to react to red flags in your startup’s path will ultimately be your best defense against going under.
Read all responses to the Entrepreneur Insider question: How do you know it’s time to drop your startup idea?
Here’s How You Develop a Successful Business Idea by Mark Caron, investor and former BMobilized CEO.
What the Most Successful Founders Understand About Business by Vineet Madan, founder and CEO of Junction Education.
This Is Why So Many Startups Aren’t Successful by Avery Roth, founder and CEO of The Startup Consulting Group.
Your Personality Could Be the Reason Your Business Is Failing by Suneera Madhani, founder and CEO of Fattmerchant.