Source: Global Village Space
As the startup world continues to evolve, some investors are suggesting that certain venture-backed startups that have yet to find product-market fit should consider throwing in the towel. The argument is that some startups raised too much money at valuations that they will never grow into, and that clean, well-planned exits are better for everyone than messy ones. The founders’ time could also be focused on more productive endeavors, greatly improving their mental and emotional well-being.
While it’s a reasonable proposal, many founders may not give up on their companies right now for a long list of reasons. Fundraising is tight, so raising money for another startup is not a no-brainer. It’s a lousy job market, and most founders feel an obligation to take care of their employees. Some very strong companies have been born of pivots, including famously Slack, whose team initially sought to make a game called “Tiny Speck.” Lastly, if investors gave founders too much money in recent years – and more than $10 million for a company without product-market fit sounds like too much money – that’s really their own fault.
To explore the issue further, renowned operator and investor Gokul Rajaram was asked about the practicality of shutting down a startup. Rajaram, who sits on the boards of Pinterest and Coinbase, believes that returning money to investors is a graceful way out for stressed-out founders. He believes that it can also win the trust and respect of investors and improve their odds of raising money in the future.
Rajaram believes that pivots are not overrated, and many great companies were formed from pivots. Twitter (Odeo) and Slack (Tiny Speck) are two examples of amazing products and businesses that were created as the result of pivots. However, each pivot does take a psychic toll on the company, and he doesn’t think a company can do more than two pivots before employees start wondering if there is a method to the madness and start losing trust in the founders.
In general, the rule of thumb has been that your seed round should be used to find product-market fit. So that’s $2 million to $3 million in capital in reasonable times. What happened is that during 2020-21, some companies thought or wrongly assumed they had product-market fit, maybe because of a COVID-induced behavioral change.
Second, there was FOMO/excess capital chasing “hot” deals. So during those two years, we went away from the fundraising stage gates that have been the norm for several years.
Returning money should not be seen as a shortcut to raising your next round of funding but instead escaping the psychological toll that endless pivoting takes on founders and other stakeholders. Rajaram believes that going all the way – running out of runway – does not hurt a founder’s chances of raising funding for another company later.
If there’s one thing investors love, it’s an entrepreneur whose prior startup wasn’t super successful but still has the hunger to build something huge and ideally related to the first company.
If there is something unethical going on – such as founders drawing crazy salaries – investors and board members have a fiduciary responsibility to step in and stop it. However, if it’s simply founders putting themselves, their professional lives, on the line and making bets – in other words, pivots – most investors will let them keep fighting till the entrepreneurs themselves decide to give up.
Rajaram believes that companies have a duty, an obligation, to treat their employees well. Making a decision early to shut down the company means that there is more severance that can be given to employees. The longer you wait, the less cash there is to help employees through a transition period.
In conclusion, while returning money to investors may be a graceful way out for stressed-out founders, it should not be seen as a shortcut to raising your next round of funding. Instead, it’s about escaping the psychological toll that endless pivoting takes on founders and other stakeholders. Companies have an obligation to treat their employees well, and making a decision early to shut down the company means that there is more severance that can be given to employees.
Source: Global Village Space
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