Being an entrepreneur is a bit like having a baby: everyone suddenly wants to give you advice. There are innumerable resources for entrepreneurs to turn to for guidance when starting their companies, so the challenge becomes choosing the right bits of advice and weeding out the wrong ones.
Here are four pieces of advice that, while common, can often lead you in the wrong direction:
1. “When it comes to the markets you target, investors need them to be very big.”
Many entrepreneurs believe that to have a “big win,” they have to chase billion-dollar markets. However, some of the smallest markets generate the largest returns. Often, big ideas focused on big opportunities require larger capital investments for startups.
Alternatively, small niche markets can be very attractive for investors, because the startup can quickly create a defensible advantage, acquire customers with less capital and be less vulnerable to threats from competitors. We love to see startups chasing markets where they can be a dominant player and establish strong customer relationships without a lot of financing.
From an investor’s perspective, there is absolutely nothing wrong with a startup that may never need more capital than $1 to $2 million, but can still achieve a “modest” $30 to $50 million exit. In fact, the likelihood of a solid return may be far higher given the lower inherent risks, despite a smaller exit.
2. “When it comes to raising capital, raise as much as you can and aim for the highest valuation.”
A simple analysis of ownership, dilution and value creation supports that a startup should only raise what is necessary to get to the next meaningful business milestone.
Achieving milestones such as product completion, key management additions, and most importantly, initial customer/revenue traction, often allows a startup to raise more funding at a much higher valuation. Studies indicate that pre-revenue startups, nationwide, are priced within a surprisingly tight valuation range, so there is often little chance of a higher valuation until these first milestones are achieved.
Most startups need to set their first value and raise targets at reasonable levels, pursuing higher valuations and larger rounds once more substantive progress is achieved.
3. “Patents are crucial for technology investors.”
It is true that investors love startups with strong intellectual property. However, we have learned the expensive lesson that not every concept or product needs a patent strategy. Filing and maintaining patents can be very expensive and may never lead to a stronger competitive position.
Furthermore, startups often exaggerate the value of their IP to investors. Then, during due diligence, investors inevitably get spooked upon discovering competitors with prior art or closely related IP.
Our advice here is to retain a reputable IP attorney, ideally with experience related to your technology or product, and to have a candid conversation on the true cost vs. benefit of a specific patent and whether your IP is likely to become a valuable asset.
4. “If you are young and smart, there is no better time to take a shot and launch your startup.”
With the recent startup avalanche and the global excitement throughout the entrepreneurial space, it’s very tempting for young entrepreneurs to leave academic programs to pursue their startup ambitions. Yet for every example where a young, inexperienced entrepreneur nailed it, there are hundreds of failures.
While some say failure itself is a learning experience, we know that even a short job stint resulting in relevant experience is by far a better strategy. A young entrepreneur should take note that the vast majority of successful investors require experienced founders and management teams.
So if you think you have a great idea, thoroughly analyze what your weaknesses are matched against what skill sets will likely be necessary for your startup’s success. Try to work on strengthening these weaknesses, perhaps by joining a company in your target industry. Learn on someone else’s dime.
Once you know your space, I guarantee investors will take a far closer look.