Live Fast, Die Young
We've mythologized the typical start-up as one bravura roll of the dice. But real-life entrepreneurship is a long, hard pull
It's time we debunked two of entrepreneurship's most glamorous myths: that it's a get-rich-quick gamble, and that it's a gamble most players lose (and quickly).
We all stand in awe of the person who starts with a novel idea, explodes into a market in one or two years, and sells out for $25 million at the end of four. We also stand in awe of the risks involved -- it's not uncommon to be told that as many as three-quarters of all start-ups fail.
But neither stereotype, it turns out, is very accurate. In truth, real-life entrepreneurship is a long, hard pull. If you think you've failed because you're not rich after four years, cheer up. Virtually no entrepreneurs are. And if you've been held back by the fear that your life savings would likely be lost in year one, you should reconsider. In general, it takes a long time to build successful companies. Failure rates are relatively modest -- and about the same for old companies as for new.
The first, and most obvious, fact about the growth trajectories of new businesses is that most do not grow explosively at all. Even after 10 years, about 60% still don't have more than 4 employees. Only 8% have grown past 20 employees by their 10th year. This is not to say that the 83% of companies that don't grow past 10 employees in a decade are failures, however. For 10 years they have produced a product or service to the satisfaction of their customers, met a payroll every month, and managed to keep solvent.
Just as most start-ups don't grow spectacularly, neither do they usually fail. About three-quarters of a group of about 1.1 million companies studied from 1983 to 1987 survived, and the results did not vary much by age. The younger companies were slightly less likely to make it through the four-year period -- but not by much.
In his recent research on entrepreneurship, Bruce Kirchhoff, a professor at Babson College, has discovered another important fact about start-ups. A company that grows at all is twice as likely to survive, and most companies do not even begin to grow until after their first four years. By the time they're eight years old, though, more than 50% of all businesses that have survived have grown.
Most of the companies that grow beyond 4 employees take their time doing it. For example, our data show that of all businesses that grew from 4 or fewer employees in 1983 to more than 10 by 1987, only 40% were 4 years old or younger at the start of the growth period, and 28% were over 11 years old. Similarly, of those that grew from 5 to 10 employees in 1983 to more than 20 in 1987, only a third were 4 years old or under at the start, and more than a third had been in business for 11 years or more.
What does all this mean if you're involved in a start-up? First, that you shouldn't worry about whether you will become an instant superstar. Practically no new entrepreneurs do. The vast majority run quite successful smaller companies that provide a significant source of income and a degree of freedom and independence that their owners value.
And second, you shouldn't be afraid of failure. While everyone has to worry about it, the odds of failure are not so great nor the fuse so short that you're unlikely to get the chance to prove yourself.
What you must be prepared for is a long, tough road. The data suggest that most entrepreneurs spend many years positioning their products and preparing their people to support growth. Growth comes to few, and for those few it is almost always preceded by a long gestation period. Business failures can perhaps be attributed more often to disillusionment with the time it takes to create a successful company -- and with the heavy price required to get there -- than to an inadequacy of ideas or money.
There is a lesson here for investors as well. The typical venture capitalist expects $20 million in sales in three years and considers any portfolio company that falls short a mistake. Such investors can, and do, find companies to fit their description of success. But they represent an insignificant source of capital for start-up and growth companies -- investing $3 billion in a good year for a class of businesses that requires roughly $70 billion or $80 billion. As the numbers show, the insignificance of venture capital in this marketplace stems from requirements that simply don't match the way that most successful companies become successful.
The flip side of this is that there is a huge market, and payoff, for more patient money. To date, most of the patient money has come from notoriously patient people -- mothers, fathers, grandparents, or entrepreneurs themselves (in the form of foregone salary, or second mortgages). Given the magnitude of the need, however, these sources are far from adequate. We need to find more efficient vehicles for getting capital into the hands of smaller, highly successful companies that require it.
There is also a clear message for those who sell to smaller businesses. If you are going to market broadly to this huge growth segment -- not just to the few high fliers -- you'll have to reach the regular old entrepreneurs. They may not be so glamorous, and they may take longer to become big customers, but they have at least one saving grace. As we discussed in last month's column, they are less likely to be volatile. They are less likely to show up on your list of difficult receivables. These companies are more likely to have steady cash flow that can support a consistent stream of purchases over time. So don't thumb your nose at the younger, slow-growing companies. Most of them are growing normally -- the hard way.
Entrepreneurship is a real grind. Don't be fooled by the superstar success stories. Think, instead, about how many times you've heard the same ones (Apple Computer, Compaq Computer, Federal Express). There's a reason for this -- there aren't that many stories to go around, and the few get retold often.
If you're not prepared for at least 10 years of hard work and long hours, you probably shouldn't start out with a business. But if you know what you're in for, the facts suggest that the odds are very much in favor of your getting where you want to go.* * *
David L. Birch is president of Cognetics Inc., in Cambridge, Mass., and director of MIT's Program on Neighborhood and Regional Change.