“Your startup will fail.”
This is how I always begin conversations with wide-eyed, young entrepreneurs. A few emotions quickly flash over their faces; then they shrug and begin anew.
“WE HAVE AN IDEA THAT WILL CHANGE THE WORLD!”
they tell me their great idea for the future, how much validation they have done, and how they intend to build and market the product. But it doesn’t matter; I can say the same to nearly every startup co-founder and be right nearly every time. Let’s consider a few failure modes:
You cannot afford your hardware.
The economy of scale is very difficult for a new company with a new idea. Let’s start with just the production costs: if you look at some product in a retail store that costs $10, the retail store took half of that, or $5, as their margin. The distributor took half or $2.50 or so. This item was likely manufactured in China for less than a dollar, leaving around $1.50 for marketing, logistics and other overheads, and a margin for the company. If you can somehow manage to acquire customers for $1 apiece (doubtful), that leaves a fat $0.50 of margin per product. We can safely assume that if you were buying these products from the Chinese factory, you would need to purchase at least 10,000 at a time; if you sell them all you have enough margin to buy 15,000 next time. That alone makes scaling a challenge.
That was just production and distribution. Before any of that, manufacturing a new product requires a lot of effort (read: time and money). You need a product design, industrial design and design for manufacturing. If you have any electronics, that will require electrical engineering, layouts and component selection. There are electrical safety tests, emissions tests, certification tests and drop tests. For a product as simple as an alarm clock, you are looking at half a million dollars.
Just to make up the R&D costs, you would have to sell one million devices. That is without any employee costs, office or other overheads.
“Well, we’ve got no problem with hardware, we’re just making an app!”
Guess what? Your app is worth its weight in gold!
Once again, let’s start with the numbers: there are 2.2 million apps in the Apple App store, while Google Play has about 3.3 million. There are about 5,000 apps uploaded daily to them both, combined. Getting noticed in any decent volume, even with digital marketing, is up against national lottery-type odds. Even if you do get noticed, making money from them is also a real challenge. Consider that the top 10 grossing apps account for around 67% of the revenue; these apps have been built by some serious companies and are marketed heavily. As we go down the range of earners, we still find a lot of big names, as well as a few of those whose lottery numbers just happened to come up. Getting users to find and use your app is one thing; getting them to pay is another. Many apps quickly attract copycat versions that are built by dedicated sponges to collect advertising revenues, but if you get 100,000 users, you could potentially grow by a few hundred per month in advertising revenue.
Great apps frequently involve high-quality graphical elements and content, take time to build with lots of talented people and have heavy advertising budgets. Sure, they are easy to distribute, but acquiring customers, getting them to continue to use the app, and getting them to pay enough to cover your costs requires a large investment before recouping costs becomes feasible.
For all of those that are making money, they have spent more than a fair amount of it – and they’ve had luck or exceptional circumstances on top of that.
What if, instead, you looked for something that made money and tried to grow that? In the two failure modes above, the startups die because of a lack of a viable business model, while they’re costing a fortune to build. Ideas by themselves are not worth much; but what about ideas focusing on business first and foremost?