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Do you really need Venture Capital funding?

Money!One distinctive characteristic of software startups that really sets them apart from other new companies in different fields is the exceptionally slim amount of capital required to get started. The ability to bootstrap is what makes our industry such an incredible business opportunity. Anyone with a good idea, decent technical skills, and a dose of business sense can come up with a profitable venture, without having to give up their equity and hand over control of the company to venture capitalists. And alternatives like angel investors or lower-end funding companies a la YCombinator are legitimate options, given that in most cases the initial investment required is minimal.

In almost any other industry you need serious capital if you plan to go into production. Let’s say that you want to market protective rubber cases for remote controls (to help save them from getting damaged if they take a spill). How do you get started? Regardless of the exact process required to go from the initial idea to the final product, one thing is certain, at some stage you’ll have to pay for the materials and have somebody manufacture your product for you (generally this will be done overseas, where manufacturing is less expensive). Whether your item has been (mass) produced or not yet though, it’s obvious that before you even begin to start marketing your product, you’re going to need some serious funds for materials, manufacturing and warehousing costs.

When it comes to software, in order to create your product all you have to do is sit down and transform the design that you’ve got in head into actual code. If you are creating a web startup, you’ll have expenses like hosting bills, but in most cases such costs are minimal and tend to increase with the size of your user base. As long as you have a solid business model, dealing with the cost of an increasingly larger customer base, is a “problem” I truly hope you encounter, as it likely means your startup is heading in the right direction.

This unique software advantage is underestimated far too often. A few weeks ago I wrote the following line on Twitter:

I’m convinced that startups that are grossly over-funded are far more likely to fail than startups that are slightly underfunded.

There are exceptions to this statement, I’m sure, but think of it like this: if you pour a lot of water into a bucket with a large hole, you’ll quickly find yourself out of water. In Paul Graham’s latest article he mentioned thirteen sentences that describe startups. Unsurprisingly, two of them are dedicated to this very topic: “Spend little” and “Get ramen profitable”.

Unfortunately, I see a trend emerging in which many new startup founders appear to care more about VC money, and the lifestyle such funds can afford them, than the success of their business. The idea of spending as little as possible, and receiving a bare minimum type of salary, so as to “get ramen profitable” is often overlooked. It would seem that the industry evolved from the notion of two hackers in a garage working to change the world with their product, to a bunch of Starbucks latte sipping, four conferences a month attending kids who expect to receive millions so that they can bring their idea to the masses.

All the best things that I did at Apple came from (a) not having money and (b) not having done it before, ever. Every single thing that we came out with that was really great, I’d never once done that thing in my life. — Steve Wozniak, co-founder of Apple.

You’ll find counterexamples to everything I’ve just written, stories of software/web startups that actually needed and were able to justify VC-level funding, but they are, in my opinion exceptions, not the norm. As I come to the end of this quick piece, I wonder if I’m being too cynical. Perhaps, not living in Silicon Valley myself, I have the wrong impression of the way the startup world operates. But even from up here, in the chilly Great White North, I can feel the heat that proverbially radiates from all the VC dollars being frivolously burned.


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8 Responses to “Do you really need Venture Capital funding?”

  1. Al Chou says:

    _Starting on a Shoestring_ espoused the same idea: it’s better to have too little funding than too much. It forces you to make hard, smarter choices.

    http://www.amazon.com/Starting-Shoestring-Building-Business-Bankroll/dp/0471232882/ref=sr_1_2?ie=UTF8&s=books&qid=1235486492&sr=1-2

  2. Maybe you already know it: similar ideas are present in 37Signals (excellent) book: http://gettingreal.37signals.com/.

    As always a nice post…thanks! ;)

  3. Inspiring post! Thanks Antonio.

  4. Very interesting post, you make a good point.

  5. rmk says:

    Agreed that some don’t need funding to get to first base and even maybe to second base. But there are many that would need funding before the public can start using it.
    Example: Google which would have needed a substantial capex to create their database so that their initial users are not disappointed with the limited search results. Even Twitter needed to spend cash to make themselves scalable so that outages were minimized.
    Some ideas need to be funded, some don’t need much funding. The VC needs to figure out how much is too much. Shouldn’t be giving the kids what they ask, should give them what they need.

  6. The media is brainwashing people when highlighting the successes of a Google or Yahoo, or other few who won the VC lottery. But you are right that while VCs are an option, it should not be considered like the best option. From Inc Magazine top 500 fastest growing companies, only 6% have received VC money. So there are 94% of companies that do very well without them. AND the average capital needed to get the company there was $75K.

    Another interesting number:
    – 4 years survival rate for startups is 43%
    – success rate for VC funded companies is closer to 10%

    You are right that too much money contributes to failure…

  7. Cam G says:

    Great post Antonio, absolutely could not agree more with the comment about overfunded startups. You are right, too many of them are set up with the specific aim of attracting VC funding not for the business but their lifestyle.

    Contrast that to the most successful icons of our industry, the great majority of whom did it hard. By hard they put the business ahead of life style. I am convinced that is why they succeeded.

    We are presently going through the capital raising process. But the dilemma is that VC’s are only interested if you want big amounts of cash.

    We don’t and nor do we want it, doing it hard keeps you focused and hungry – 1 genuinely believe that is a path you must travel in order to suceed as a business

  8. Alex says:

    Sounds like good reasoning but in my experience can’t completely agree. Having a great idea and/or (software) product may not be enough in certain cases. Access to certaih markets may require substantial investments to reach decision-makers (enterprise).

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