This is where so many startups go wrong

We’ve all heard the ‘8 out of 10 startups fail’ trope. And even though it’s been debunked as untrue (the success rate is actually around 40-60 per cent), many emerging firms aren’t setting themselves up for success as well as they could be.

So where does it all become undone?

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The answer is startlingly straightforward. Entrepreneurs are running out of steam – and money – often because they’re spending it on all the wrong things.

Hardworking startup founders pour their time and energy into their product and might raise a few million dollars, but a lack of cost discipline will catch up to them, suggests RiskWise Property Research CEO Doron Peleg.

“In many cases they did not have their own businesses, and nor do they have strong corporate experience in senior roles,” Peleg said.

“So what happens when they have those seven digits in the bank account?”

“The sad truth is they don’t know how to manage their money,” he said.

Entrepreneurs often fail to heed the warning signs of dwindling funds and are forced to bring forward their capital raising – which would mean giving away a significant chunk of the company.

“To put it simply, when they start wasting money on frivolous items like ping pong tables or unnecessary staff like a full-time in-house designer, they are actually wasting their own equity.”

Budget for it

Startup investor Steven Maarbani told Yahoo Finance that many small firms were not prioritising budgeting highly enough – or hiring key staff members that performed this function.

“The founders are often not from finance backgrounds and the chief financial officer is often the last person they hire,” Maarbani said.

“Without someone setting clear budgets, overseeing those budgets on a regular basis and holding teams (including the founders) accountable for the delivery of revenue projections, its very easy to burn through cash on initiatives that are not revenue producing.”

He advised founders to ask themselves the following questions before raising capital.

• What are the key value-adding milestones they plan to achieve in the next 12-18 months?

• What will they need to spend to execute that strategy?

• Can they support each line item of spending with reliable costings?

“Have clear and regular financial oversight of your operation from the very beginning,” Maarbani told Yahoo Finance.

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Where is the money going?

Startup founders are spending big dollars on leasing expensive, large offices in prime CBD locations as well as being tempted to be major event sponsors just to impress their friends, Peleg said.

But it is very difficult to determine the success of sponsorships – and just because sponsorships work for larger, more established companies didn’t mean it means it’s the best option for smaller-scale startups.

These emerging firms are also splurging on designers, marketing, IT, high staff count, and perks and incentives that don’t necessarily add value to the business.

“Every additional unnecessary employee, and even the difference between part-time or full-time, is another piece of the company they are giving away.

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“Every additional square metre in the prime area of the Sydney CBD is less time to generate additional revenue,” Peleg said.

“Every time they spend unnecessary money they are increasing their burn rate; and instead of trying to use funds for a longer period of time, they are frittering them away.”

Costly expenses will impact the success of the business, he added.

“The higher the expenses, the harder it is to get to the breakeven point (where the revenue covers the expenses and the company is no longer losing money).

“It means you have to generate more revenue sooner than expected, or it could mean you simply do not have enough time to generate sufficient revenue and the company will fold.”