What Are The Early Signs Your Startup Is In Trouble?
“There is no negotiation on this term sheet,” "Raul", the Venture Capitalist, said to me. I was stunned.
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There’s always negotiation, isn’t there? Everyone negotiates, right? Not this VC.
The terms we were given were horrible. I tried everything I could to get better terms, but Raul was unmoved. The answer was always “No”.
Mike Tyson once famously said, "Everybody has a plan until they get punched in the mouth." Raul's refusal to negotiate was a punch in the mouth.
We had been raising money for two years. 63 VC firms had turned us down.
I wasn’t sure there would be another chance for us to get funded. So I accepted the term sheet after talking with my advisors.
We were in trouble and we hadn’t even started the company yet.
But I rationalized it away. I just told myself, “He’s a tough negotiator. I’m glad he’s on our side now.”
Raul's behavior remained disruptive throughout the life of the company. Eventually Raul's behavior forced us to sell the company well before we wanted.
The signs were there all along.
You will not likely have to deal with a disruptive and destructive VC like I had to. However, there will be other warning signs to look out for.
Look at your cash flow.
Typically when you start a company, it’s all about when are you going to run out of cash. And that is when you know you are in trouble because you know you don’t have enough cash to get to your next milestone.
Cash is a lagging indicator of trouble.
You want to be looking way ahead at what’s going on with your business. You have a much better chance of finding trouble before it hits you if you’re looking way ahead at what’s going on.
So look at your cash, but you also want to look at other metrics and indicators that are more important than cash. For example, let’s say you have a product in the marketplace.
There are things you should be tracking about that product even before you get one paying customer that are going to tell you whether you are on track.
For my business, we used to look at three things:
- How much web traffic were we getting?
- How many free samples were we giving away of our products?
- How many customers did we have?
We knew, which is pretty obvious, that web traffic would lead to free samples and free samples would lead to paying customers.
It becomes simple math once you know the ratios between your key metrics.
Let’s say every third visitor to the site sampled our products and every fifth customer that sampled the product purchased the product. Then you know that one out of every fifteen visitors(three times five) to the site would become a paying customer.
That’s what we did to track our growth. You need to figure out what those indicators are for you.
But let’s take even one step before that. What are the other things that tell you that you’re not on track?
Your employees tell you you’re not on track.
And do you know how employees tell you that you’re company isn’t on track? They tell you when they are leaving.
Many times people don’t tell you the truth when they are working for you because they are afraid telling you the truth will cost them their jobs. But employees do tell you the truth when they are leaving.
There’s a problem in your company if you have an inordinate amount of turnover. But you can take it back even one step further from there.
You have three possible problems if you’re having trouble hiring people:
- You’re not compelling as a leader (sorry to tell you that but it’s true), or
- There is something wrong with your product, your vision, or your culture, or…
- You’re compensation structure is out of whack.
All these things could be possible, but they are all indicators that there is something wrong.
You can’t just turn the other way. You, the CEO, need to figure out what’s wrong and fix it. That leads us to the second part of this post:
What can you do to prevent these problems from happening?
This is probably an even more important question to answer.
Let’s start with cash.
A. Forecast, forecast, forecast. All of us entrepreneurs (myself included) are horrible at forecasting. It’s normal. But you have to do it.
B. And the more you forecast, the better you get at it. Therefore, you can be making adjustments to your financial forecast at the same time that you’re making adjustments to your business forecasts on the top end.
C. Then you will know more accurately when you are going to run out of cash. This is a great leading indicator of what is going on with your business.
You really want to forecast every month because that’s going to tell you when you will run out of cash. And remember that it takes at least six months, and more like one year, to raise money.
D. So the idea is getting way ahead of the curve on your financial management. Take your corrective actions early rather than later.
Don’t wait to take corrective action because you’re dead if you wait.
So you can take your corrective actions early if you see that your business isn’t ramping as quickly as you would like.
Again, don’t wait.
If you identify a problem, then you may have to:
- Slow down your hiring, or…
- You may have to slow down your spending.
Whatever it is, make sure you have the runway you need to get the company more funding or to cash flow break even.
Finally, you can start raising money early. Again, it is going to take you at least six months to one year to raise your funding.
Plan for your cash to last longer then you think.
You want to be way ahead of the curve on when you need money. So start raising your money at least 12 months in advance of when you are going to run out of money.
Take one more action now while you have the time. Make your cash last longer then you think you need it to.
So make your cash last for eighteen months if you have twelve months of cash left. I know it’s painful to take these actions. However the tough action you take today may be the difference between your company succeeding or becoming just another failed startup.
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