Posted by: @spdlm | 13 Sep 11

The Risks of a Start-up 3 – Unrealistic Overhead

Although no two businesses are alike, the stories of those that are successful and those that aren’t, start to form a common theme. As a part of this series “The Risks of a Start-up”, I want to discuss the issue of unrealistic overhead.

There is no right and wrong, but still some get it very wrong

Ambition, not recknlessness

So, at which point does an ambitious growth plan become a reckless plan? I once knew a start-up that declared itself a bootstrapped company while it kept pouring tens of thousands of dollars each quarter for about 2 years. They have stretched the term “bootstrapping” to the extreme. The only thing that was bootstrapped about that company was their revenue. The CEO was a firm believer that in order to make it big, you have to think big, including the spending.

Start small

Start small because you can always scale up. It is always difficult to scale down the spending and this is even more so for a start-up because you have less to fall back on. I always recommend that start-ups write a business plan as early as possible because it helps them think through the small details of the business. No business plan is complete without cash flow projections. The aforementioned start-up simply committed to substantial fixed cost even before knowing, even vaguely, how much this company was going to make.

The numbers

Even if you are a rock star hacker, numbers have to make sense. Overheads should be a function of revenue. If your current monthly revenue is $1,500, your spending needs to be below that (while you are bootstrapping). Sounds condescending? When you win an award or get very positive feedback from your group of friends, apparently, it is very easy to be convinced that it is ok to hire the best developer and buy the the best equipment based on the assumption that revenue will pick-up substantially, followed by the inevitable investment. If you ever want a reality check, by all means talk to your mentors but please take a long hard look at the numbers. Never give up the dream but in order to keep it alive, don’t put yourself in a situation where you don’t really understand why your overhead is substantially larger than your revenue.


Responses

  1. Not just startups, but “spin-offs” as well. I’ve been involved in a couple, so I studied them. A common thing is to dump or severly modify their product line (their purpose for being). But before that, they put all “starting capital” into a new building and a new EMS, forgetting what made their business. With much reduced liquid assets, they have to then dump their core. Very sad to see the energy of the employees be squandered for what appears to be the ego of the new CEO.

    • Thanks Bruce.
      I am in a business of encouraging entrepreneurs to take the plunge and produce something great. This doesn’t mean all entrepreneurs are equipped with what it takes to deliver that great product. In the end, this is business, which has revenues and costs, which must be balanced. As for your spin-off scenario, and many start-ups, egos do play a big role. It’s sometimes very difficult to see whether this is a pissing contest or a healthy competition. S


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