Who can predict the future? Certainly not venture capitalists. If investors could predict startup success, then their portfolios would be filled with way more winners. But new research indicates a new way to predict startup success: not by focusing on the startup's team, market, or technology, but instead by focusing on uncertainties.
Often, the difference between entrepreneurs who make it and those who don't lies in the effectiveness with which they anticipate and manage the underlying risk and uncertainty of their new venture. New research, published at the end of February in the journal Sustainability, has found that success of startups can indeed be efficiently predicted with a model focusing on uncertainty, if the data set contains accurate information.
At Ryerson Futures, the startup accelerator and venture capital fund where I help out, my partners and I often discuss if startup success is predictable and which predictors are most accurate and insightful. To date, like many investors, we've focused on team history, market size and status, access to early adopters, domain expertise, elasticity of demand, and a handful of other factors to better understand what leads to success and how it can be reliably predicted.
Understanding uncertainties (and assessing the risks) surrounding business opportunities is also essential for you as a founder if you want startup success.
Five Key Uncertainties
In this research, "uncertainties" are defined as an individual's perceived inability to predict something accurately due to a lack of sufficient information. The research identifies five key uncertainties:
- Technological Uncertainty. Can the product be built? Can it be built cost-effectively? Can you out-innovate others trying to solve the same problem?
- Political Uncertainty. Is the economy ripe for innovation? Are there government obstacles or support that need to be accounted for?
- Competitive Uncertainty. What types of competition do you face? What do you know about market share, customer access, and the overall competitive landscape?
- Customer Uncertainty. What's the size of the market? What about the adoption stage of the market, elasticity of demand, and purchase behavior?
- Resource Uncertainty. Can you get funding for this? Do you have the business acumen to take on this market? Do you have the human capital and the channels needed to sell?
These factors have a proven significant influence on the success and growth of a new business, so the study's authors focus on these five uncertainties as a method to evaluate opportunities. You should consider these types of uncertainty and figure out how your business can address them.
When you are able to mitigate these uncertainties, your business is more likely to succeed.
Analyze your market to figure out what uncertainties you'll face in your industry. Then, use the information you've gathered to decide which problems are the most important, and what tools you'll need to tackle them.
In-depth market analysis is one way you can manage uncertainty in business. Here are six additional ways I've seen companies actively mitigate risk:
- Simplify your business to minimize complexity. You have scarce resources and scarcer management bandwidth. Focus on serving a niche through face-to-face customer interaction. Focus on one small thing at a time.
- Test everything. Don't assume you know your customer segment or unique value proportion. Instead, let the results of market experiments guide you. Follow the Lean Startup methodology, and run as many small, low-cost experiments as you can.
- Launch early and often. Don't wait for perfection. "Done today" beats "perfect tomorrow." The best way to minimize the risk is to shorten the distance between you and your early adopters. The faster you get your solution into the hands of early adopters, the more likely you are to avoid failure.
- Look for smart money when building your stakeholder base. Smart money is funding that comes from a source that is strategic--for instance, funding from customers or investors that have already had wins in the industry you are focused on.
- Turn Fixed costs into variable costs. Fixed costs are set, while variable costs change with volume produced. Making a car requires fixed costs (like design) and variable costs (like metal, rubber, and leather). Variable costs help pivot faster than fixed costs. My favorite example is using independent contractors for sales, rather than building and paying for an entire sales force.
- Keep cash burn low. Don't lock into long-term service agreements. Never miss an opportunity to save money (for example, buy used office furniture). The more cash you keep on hand, the more runway you will have in which to figure out your business model.
Many startups fail when an entrepreneur can't adequately address uncertainties. While identifying the top uncertainties is a great starting point, it is not enough to simply assess them. You need to proactively manage risk through the strategies highlighted above if you want to increase your probability of success.