Unicorns, it turns out, were never driving economic evolution in the first place. The simple fact remains that every business in the world thrives or dies based on one simple premise: The money has to come from somewhere.
In recent years, many tech startups have received hundreds of millions of dollars from enthusiastic investors. The mandate? Grow quickly and exit fast.
Participants in this “get rich by any means possible” phase grew so fixated on a big exit that many lost focus on the business itself.
Broken down in its truest sense, business is the “activity of making, buying, or selling goods or providing services in exchange for money.” It is not “a choice made by thinking about what will probably happen.” That is a bet, and betting is precisely what investors and startups have been doing instead of building businesses.
By all indications, the unicorn era is at its terminus, and the biggest profiteers have already run off with the gold. The coming fallout will reveal the strong businesses for what they are and let the weak fall by the wayside.
The rude awakening
Fidelity’s recent Snapchat writedown is the most recent expression of a long-needed adjustment back to normal. VCs, institutional, and private equity investors are tightening their bankrolls as pre-IPO unicorns like Groupon stumble in the public market, exposing discrepancies in initial valuations.
Entrepreneurs looking to grow the top line and sprint towards a lucrative exit are in for a rude awakening. Yesterday’s investment conditions were never normal. They existed to benefit a few major shareholders at the expense of quality. Rather than being a bad thing, a market adjustment will benefit everyone looking to build — not conjure — a sustainable business.
Looking beyond luck
Success in business and investment always takes a dose of luck — on top of savvy, intelligence, and guts. In recent years, the equation has weighed too heavily towards luck.
Entrepreneurs and investors alike placed disproportionate faith in top-line growth. Now that the first wave of IPOs are tumbling back to Earth and big late-stage investors are reigning themselves in, the entire startup community must rethink what it means to succeed long term.
Venture capital flowed to poorly functioning companies for so long that entrepreneurs started to build businesses based on top-line growth rather than sustainable metrics like net profit. The ease of building an online business, coupled with an innovation-hungry younger generation and a large amount of money flowing into American venture firms, led to a modern tulip craze that is only now adjusting to reality.
Gambling is a business, but business is not gambling
A company built with a short-term mindset evolves into a completely different type of business (I would argue non-business) than a company built to last on its own merits.
Founders spend millions to sell and market their product, in some cases at the expense of product viability. Deep discounts and acquisitions might gain a company more users, but they don’t make its product more useful or establish trust with users. The only way to become profitable after massive expansion is to raise prices or offer value-added tiers of service, and that only works if the product you discounted in the first place is useful enough to warrant payment.
It’s easy to use Salesforce as the poster child for land and expand, but the CRM giant, as well as fellow favorite example Amazon, is anything but normal. First of all, both companies fulfilled a real need, Salesforce for better, faster, easier CRM, and Amazon for reliable online shopping with fast delivery. Users grew to love the software, and revenue followed, although company margins took a long time to catch up.
This should not be treated as a well-worn path to success. Top-line growth always tapers off eventually. When it does, all those customers you acquired by growing so quickly had better be generating recurring revenue.
Most companies will not become unicorns. Yet over time, the idea has percolated to the point of cliché, and players began to believe that success meant scale. The current move back to reality represents a long-needed financial adjustment, and a mind shift.
Patience is a Virtue … For a Reason
Every startup is born with the opportunity to succeed as a business. It takes grit and patience to grow responsibly.
Four key rules every business leader should follow:
- Build a product that meets the needs of a loyal, growing customer base
- Raise money not out of fear or greed, but because you have a specific plan to use it for the bottom line
- Incentivize workers for long-term success
- Prioritize achieving cash flow breakeven followed by bottom-line profitability versus a singular focus on top-line growth.
Even if 2016 presents a startup crash to rival the dotcom boom, those entrepreneurs building real businesses will remain intact. The unicorn era may have obscured which companies were real and which were speculative, but when the tide rolls back, only the solid will survive and derive the return on investment they deserve.
Vineet Jain is cofounder and CEO of Egnyte.
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