A new study from North Carolina State University is turning conventional wisdom about technology start-up companies on its head, showing that:
- moderately undercapitalized companies can still be successful and’
- a top-notch product is more important than a stellar management team
Startup technology companies with moderate levels of undercapitalization can still be successful according to a new study from North Carolina State University and the University of Oklahoma. The study examined 79 companies started over a 10-year period. “Our research shows that undercapitalization is not a death sentence for start-up ventures,” says Dr. David Townsend, Assistant Professor of Management, Innovation and Entrepreneurship at NC State who co-authored the study with Dr. Lowell Busenitz, Professor of Entrepreneurship and Management and Academic Director – Center for Entrepreneurship at the University of Oklahoma.
The two researchers found that moderate levels of undercapitalization, even capitalization ratios as low as 20% of the venture’s initial goals, are not statistically related to a venture’s probability of surviving. “There are things a venture can do to survive and succeed.” Basically, Townsend says, start-ups that fall short of their fund-raising goals can take steps to minimize their cash outflows in order to stay viable.
They can do this by engaging in “management strategies focused on reducing their costs. For example, outsourcing certain development tasks and accounting responsibilities or exchanging services with other companies,” Townsend says. Locating your firm in an incubator that offers services that can put you in touch with firms that can do this with your startup can be an important factor in choosing a business incubator for your new firm.
Creative use of resources is important. For a chemistry or life sciences startup, this can mean obtaining inexpensive access to expensive laboratory facilities, particularly instrumentation.
Townsend also concluded that a great management team is not more important than a top-notch technology product when it comes to securing sufficient amounts of capital.
A disciplined approach to cash management is essential according to Townsend. Writing in Bloomberg Businessweek, Vivek Wadha, a start-up veteran and visiting scholar at the University of California-Berkeley, a senior research associate at Harvard Law School, and the Director of Research at the Center for Entrepreneurship and Research Commercialization at Duke University, agrees with Townsend. Wadha observed that when a company is running on a tight budget; it will perform better than a company with ample funding from venture capitalists. Why?
According to Wadha, large amounts of equity money can quickly lead to bad habits. Venture capitalists will want the CEO to bring in a seasoned management team. However, these managers typically want large salaries and big chunks of equity. These managers often want what Wadha calls “rock star perks” such as: a personal assistant, first class travel, company car, etc. Wadha reports that bringing in one or more hires like this usually means the original members of the startup team stopped worrying about keeping costs down and increased their own spending. According to Wadha, this “can quickly cripple and kill any new venture.”
Bringing in large amounts of venture capital often creates expectations of very rapid growth on the part of investors. This often comes at the expense of long-term profitability according to Wadha. It can also mean that startup founders worry more about keeping their investors happy and less thinking about customers. A lean and hungry startup tends to better maintain its customer focus.
John Borchardt is a chemist and freelance writer who has been an ACS career consultant for 15 years. He is the author of the ACS/Oxford University Press Book “Career Management for Scientists and Engineers.” He has had more than 1200 articles published in a variety of magazines, newspapers and encyclopedias. As an industrial chemist, he holds 30 U.S. and more than 125 international patents and is the author of more than 130 peer-reviewed papers.