Common Startup Timing Mistakes and How to Avoid Them
"The right thing at the wrong time is the wrong thing."
- Josh Harris
Unless an early stage startup is profitable, it's constantly working against the clock. A typical seed round provides 1-2 years of runway, and that runway is always shrinking. There's a lot of advice on the web about what to do once you've raised money, but not when to do it. This is unfortunate, because poor timing can kill a company.
Some timing mistakes are obvious in retrospect, like planning 18 months of work for a 15-month runway, or doing things serially when they could be parallelized. Other mistakes are more subtle, like misaligning seasonal demand with a fundraising cycle (e.g. raising 2-3 months after a peak season is tough because most of your key metrics are dropping just as you're starting to approach investors).
This post will describe some common timing issues, as well as a framework for avoiding them.
When making key decisions, founders should keep three questions in mind:
- How does this decision affect the magnitude of my costs and revenues?
- How does this decision affect the timing of my costs and revenues?
- How does this decision's effect on costs and revenues interact with my fundraising timeline?
#1 gets a lot of attention but #2 and #3 don't get enough.
In the perfect world, your costs are low and far in the future while your revenues are high and collected today. In the worst case, your revenues are collected over many years while your costs are high and upfront.
In the perfect world, your revenues go up before your fundraise and your costs are deferred or paid gradually. In the worst case, your costs go up before your fundraise and your revenues are deferred or collected gradually.
Common timing issues
Hiring and firing
- Issue: hiring aggressively just before fundraising. This increases your costs immediately, but your revenue probably won't be affected for at least a few months.
- Issue: not budgeting enough time for hiring and onboarding. You can't just plan to add 3 salespeople or 3 engineers next month. Hiring often takes months of searching and interviewing, followed by months of training and onboarding before employees are 100% productive. If your business plan is to hire 5 salespeople this month and experience a huge sales increase next month, then you need to rewrite your business plan.
- Issue: firing mediocre salespeople shortly before fundraising. This is dangerous because while your costs drop a little bit, your revenue growth can drop dramatically. Even though letting go of a B player to look for an A player is often the best move in the long term, it can be a bad move in the short term.
For example, let's say you're at $50k MRR and you have a salesperson who is adding $10k MRR each month -- but you wish they were adding $20k. If you let the person go, your revenue growth suddenly goes from $10k/mo to $0/mo. That can really derail your ability to raise money from investors, especially when paired with the time required to find and train a new salesperson.
Budgeting enough time
- Issue: not allocating time in the roadmap for fundraising. Series A rounds often take 3-5 months to raise. Sometimes they're much faster, but you can't rely on that. If you know what goals you have to hit for a Series A, then your seed funding should provide enough runway to reach those goals and have 3-5 months left over for fundraising. If you're planning to get to Series A milestones in 12 months and you're raising 12 months of runway, then you are setting yourself up for a yearlong journey to nowhere.
- Issue: overlooking the expected lengths of sales cycles. It may take 1-2 years to sell an infrastructure product to a Fortune 100 company. If you're planning to target customers like that, you should have enough runway for product development plus a full sales cycle plus buffer for raising your next round. This might mean targeting 24-30 months of seed stage runway instead of the 18 that's recommended for most startups.
- Issue: overlooking relevant regulatory timelines. If you need a certain type of real estate or financial license, make sure to account for the expected timing in your plans. If your product is ready to go in 6 months but it takes 10 months to acquire a necessary license, then that's 4 months of time where you will be paying your employees to sit and wait.
- Issue: overlooking the seasonality of a business. For ecommerce companies, sales spike in November and December; for companies working with schools and colleges, sales cycles are tied to the academic calendar; for companies focused on winter sports, summer months will be uneventful; and so on. You want to time your fundraising efforts to be during or just after a peak season.
You should also take seasonality into account when starting to build a product. Think about when demand spikes relative to your company's timeline. If your customers buy software in August and it will take you 6 months to build an MVP, then don't star the company in March -- you'll need a lot of funding just to survive to the next sales cycle.
Timing costs and revenues
- Issue: paying sales commissions when a sale is made. Instead, commissions should be paid when your company collects revenue. If a salesperson earns a 10% commission and they land a 2-year $1000/month deal, they should get a commission of $100/month for two years, not a $2400/month commission on day one. Note that this commission structure also encourages salespeople to get customers to prepay, since they will be able to receive their full commissions upfront.
- Issue: not encouraging customers to prepay. Getting customers to prepay dramatically improves a company's cash position and extends its runway. To understand how much of an impact prepaid billing can make, see A Surprisingly Powerful Mechanism For Growing A SaaS Startup by Tomasz Tunguz.
- Issue: hiring people before you need them. This is most often seen in startups that raise too much money and feel like they should be putting that money to use. If you hire a salesperson in month #2 but there's no product to sell until month #7, you're burning a lot of money on salary for someone who has nothing to do.
Avoiding most of the timing mistakes above is surprisingly straightforward. Once you've designed a roadmap that includes key events and milestones, perform the following exercise:
- For each item on the roadmap, like a new engineering hire or a major marketing initiative, estimate how much implementation time the item will require, when the item will start contributing to costs, and when the item will start contributing to revenues.
- When possible, advance items that increase your revenue and postpone items that increase your costs.
- For items closer to the end of your runway, explicitly think about how associated costs and revenues might impact your fundraising plans.
- Sanity check your timeline against external factors: customer sales cycles, sector seasonality, regulatory requirements, etc.
- If you realize you don't have enough funding to get to the goals you want to reach, your options are to a) raise more money, b) change your goals, or c) change your tactics. If you can't make the timing work out, the risk of failure shoots up dramatically.
If you have timing mistakes or tips that you'd like to share, please let me know on Twitter and I will update this post accordingly.
- Andrew Hoag mentioned that fundraising can be seasonal, too -- especially outside of Silicon Valley. See: https://twitter.com/ajhoag/status/771013436004241409