6 Ways Startups are Fooled by Prior Business Models

As an entrepreneur mentor and startup investor, I see with sadness the 50 to 90 percent that fail. If you ask them for a reason, most will insist that they couldn’t get funding, or they ran out of money too early. But I’m not convinced that it’s as simple as that. Many are just not facing the reality that their passion had a critical business flaw.

As I was reading a recent book “Dead Companies Walking,” by Scott Fearon, who runs a hedge fund that profits from businesses headed toward bankruptcy, I realized that his insights on the common ways that mature companies often doom themselves apply equally well to startups. Every business, young or old, needs to avoid the following six mistakes that he outlines:

1. Anticipating success based on the recent past. This fallacy, often called historical myopia, essentially involves extrapolating only from recent positive events, and ignoring the reality that markets saturate or evaporate. With the success of Facebook and Twitter, I still see new social media startups almost every day, with most destined to fail.
2. Relying on an old formula for success. The fallacy of formulas that “can’t fail,” and holding on to troubled ventures, is alive and well in startups. It’s tempting to believe that one more new platform will win for crowd funding or video games, like Indiegogo and Wii. Actually, great new customer solutions lead to great platforms, not the other way around.
3. Extrapolating you as the target customer. Never mix up what you like with what your customers will buy. Just because you would have loved to have your groceries picked out and delivered, doesn’t mean the mainstream customer was ready for Webvan in 1999. Or ask PlanetRx, an online service for prescriptions, before the Internet was pervasive.
4. Falling victim to a magical mania or bubble. Perhaps the most famous bubble for startups was the dot.com craze that crashed 15 years ago, where the highest valuations were given to companies with massive user growth, but minimal revenue or profit. This one may be back, and due for another crash. See point #1 or watch history repeat.
5. Failing to adapt to tectonic shifts in the market. Blockbuster failed to recognize that their industry had fundamentally and permanently changed, and even Netflix has suffered from the same issue, as video streaming takes over. Things happen fast these days, so don’t get caught re-arranging deck chairs on the Titanic. Fail fast and pivot.
6. Physically or emotionally moving yourself above the business. More than one smart entrepreneur has been caught in the lofty lifestyle of big money investors, viral growth, and movie star status. Startups can go down many times faster than they go up. Just ask MySpace, eToys, and Pets.com. Never take your eye off the ball in business.

Of course, there are many other common reasons for startup failure, including inexperienced teams, inadequate marketing, no intellectual property, business model doesn’t work, or just giving up too early. Every startup is a step into the unknown, making it a higher risk of failure, so there is no room for complacency or assumption.

In reality, failure is not a bad thing. In a healthy economy, capital markets and discriminating customers fuel growth and new ventures by handsomely rewarding well-executed ideas, and ruthlessly starving out even long-running ventures that refuse to adapt and innovate. A smart entrepreneur learns to embrace failure as a badge of learning that provides a competitive edge.

The lesson here is that even the most promising startups and experienced teams can be misled by sticking with business models that worked in the past, and market opportunities that may no longer exist. While there should be no stigma for failure, there is no joy in being a dead business walking. The quicker you heed these messages, the sooner you will be able to enjoy and celebrate the entrepreneur lifestyle.