Startups Vs. Ordinary Companies
Not every company is a startup, and it's perfectly ok. Ordinary tech companies can grow with multiple strategies, but they are not a target investment for venture capital firms.
It looks like everyone today wants to create a startup, but most founders end up building an ordinary company. Why do people get confused so easily? Because they think that every company that aims to innovate is entitled to call itself a "startup." Unfortunately, that's not the case. And let me say that it's a great achievement to build—ordinary—innovative companies that last fifty years and more. Most of those companies, though, are not a good fit for venture capital investments.
A startup is a different type of company, and here I want to try to explain it using a different angle. Startups are venture-backed companies, and maybe we should begin to use this terminology—venture-backed company—instead of "startup" itself. It's a lot less confusing and avoids the improper hype underneath the startup world. Venture capital firms follow defined patterns in their investments: a big market, a great founding team, and a company that grows fast. I already discussed what a startup is in a previous article. Still, comments on various social media proved to me that there's confusion about why a startup is so different from an ordinary company.
Venture-backed and ordinary companies have many commonalities:
They both use technology to automate and simplify people life
They both aim to create a product that people need and pay for
They both need talented people to take over the competition
Visionary and passionate entrepreneurs lead them both
And the list could be much longer. For the purpose of this discussion, though, it is much more interesting to take a closer look at the differences between those two types of realities.
Ordinary companies and startups differ in three main aspects:
In analyzing those characteristics, I've been inspired by some essays by Paul Graham—co-founder at Y Combinator—which I suggest you read.
Differences in the founder's ambition
Founders of ordinary companies want to stay independent for as long as possible. They start investing their own money and reinvest profits to grow their business. That's what you usually do when you decide to create a company. With more company profit, comes more investment for the following year. If along the journey entrepreneurs need capital, they make a loan from financial institutions or go look for a business partner interested in joining the company and investing to help its growth. A new business partner brings skills, capital, and business connections. Sometimes they design their business to stay small because their dream is to create a lifestyle business—like solo entrepreneurs or micro-companies with 2-3 people.
These kinds of companies want to grow at their own pace. You can mitigate the risk of becoming too big too fast, limiting your ambition. You don't want to conquer the world. You want to gain financial independence and build your own company as a family business. You want to have enough space in your life for other things, like a family or a hobby.
That doesn't mean that startup founders don't have a family, but it's harder to find the time for everything. When you are working on a venture-backed company, the pressure to deliver and grow your business fast is pretty heavy. You have many milestones to meet to raise a new investment round and then run even faster. You don't think of growing the company just with your capital and definitely not with the company profit. That would force you to build your business at a much slower rate.
How big your dream is probably the main difference between a startup and an ordinary business.
Differences in constraints
An ordinary company is designed to start and stay pretty local over the years. The geographic constraint defined and protect your business. You have enough market opportunities around you, and you don't even think of expanding too much. The barbershop example is a good one. It competes with other local barbers. You have chosen a local niche, and that both protects and defines you as a company. Things don't change if you provide to your customers with an app to book the service and avoid waiting to get served. You have a market constraint and a product that is designed to compete locally.
On the other hand, if your company is building a search engine, the scope of your business is global since day one. If your product is relatively novel, there's a good chance that you cannot impose too many constraints on its geographic scope. You need to find the best place in the world to launch and attract your initial customer base.
Even a venture-backed company always starts with a niche market, but the pattern is entirely different. You want to become the leader in the niche and then expand. The niche is not a constraint; it's part of a clear strategy to consolidate your product and expand. Even startups face obstacles during their lives, but their efforts focus on finding ways to remove those constraints and keep growing.
Facebook in 2013/2014 couldn't grow anymore because they reached the ceiling of the Internet, the number of people online. They had around 1.25 billion people on their platform, and to grow, they needed something new. So they launched Internet.org. They start working with carriers and emerging economies to get more people online. As the site says:
Internet.org is overcoming issues of accessibility, affordability, and awareness—in hopes that one day, everyone will be connected.
It worked, and they began to grow again.
Startups regularly face constraints in their expansion process, but they need to find ways to overcome them and keep advancing their market share. That's how you create a multibillion-dollar company.
Ordinary companies use the constraints to consolidate their niche, but at the same time, they limit their growth because that niche is the only market.
Differences in prize
Competition is a particular type of constraint that might be related or not to the geography of your target customers. It's something deeply linked to what you aim to solve with your product. Competition, in some way, defines the size of the final prize. Paul Graham suggests an excellent example of that:
If you write software to teach Tibetan to Hungarians, you won't have much competition. If you write software to teach English to Chinese speakers, you'll face ferocious competition, precisely because that's such a larger prize.
Smaller prize means smaller competition, and that protects your business and defines you as an ordinary company independently of how great your technology advantage is.
There are cases where there are a few competitors because you are approaching a new emerging technology with a great idea. You might have started the company just before a new technology wave became mainstream. That is a different scenario, and the prize might be a big one. Besides, cases like those ones are pretty hard to identify. Not everyone will see the same future that you can see. This is when visionary founders and unique venture capital firms meet each other. This is when billion-dollar companies get created.